Joe

Poor Charlie’s Almanack

April 23, 2021
, 11:29 am

In this video summary of Poor Charlie’s Almanack, you will learn about the greatest investing advice from the right-hand man of Warren Buffett – Charlie Munger.

Video by The Swedish Investor

Key Takeaways

Together with Warren Buffett, Charlie Munger has been the mastermind behind Berkshire Hathaway, the 6th most valuable stock market company in the world, and its success.

5. Start With the Don'ts

The fifth most important takeaway from Charlie Munger’s Poor Charlie’s Almanack, is to “Start with the don’ts”.

When amateurs play tennis, the winner usually don’t win by shooting the fastest or the most skilled shots instead, when amateurs play tennis, it’s usually the person who shoots the fewest shots in the net, and misses the court the least amount of times, that wins.

Simply put – you win by playing it safe.

The loser is usually the person who tries to hit hard and too advanced shots.

According to Charlie, this also holds for life in general. And more importantly – for investing.

Trying to be consistently not stupid and staying within your circle of competence is better than trying to be very intelligent.

If you want to be a successful investor, you will have to pick markets, industries and companies, where you can create and sustain an informational edge so that you know the ins and outs better than the rest of the investing collective.

One important part in this process is to limit yourself so that you know what your circle of competence is.

In the process of finding where you can create yourself this edge, you should start in the other end – by choosing which markets and industries to avoid.

For example, I have tried to avoid companies based outside of Sweden, companies that don’t yet make a profit, banks and insurance companies, to mention a few.

In the process of finding where you can create yourself this edge, you should start in the other end – by choosing which markets and industries to avoid.

It all comes down to where you can create yourself an edge so that you can bet heavily when opportunity shows its face.

By avoiding areas that are not within your circle of competence, you can better understand and control your risk.

Charlie Munger and his partner in crime Warren Buffett stayed out of technology companies for a very long time. They’ve missed out of a lot of opportunities because of this, but more importantly, they avoided making a lot of mistakes.

For example, they sailed quite smoothly through the dot-com bubble.

This is a really important part of any investing process and I want to ask you this: Which companies do you avoid today?

Starting with the don’ts is one of Charlie Munger’s favorite mental models, and he has been quoted saying:

"All I want to know is where I'm going to die, so that I'll never go there".

-Charlie Munger

And again, this model can be used when playing tennis or chess, when finding a suitable spouse, or choosing an education or job.

By simply removing the worst alternatives, and thus playing in a way so that you don’t lose, you will be a big winner in investing and in life in general.

4. "Lollapalooza"

Charlie Munger is known to have coined the term “Lollapalooza effect”.

With this, he means an outcome that is extraordinary. Where 1+1=3.

A Lollapalooza effect is created when an outcome is much bigger than the sum of its parts. One positive effect enhances the power of the next one, and on and on and on.

You want to invest where there’s a possibility for such self-reinforcing loops.

For example: One of the greatest brands in history was created through a lot of Lollapalooza effect by combining the factors of a great product, two powerful stimulants, clever marketing, ease of availability and social proofing.

Which brand do you think it is? It’s coca-cola, of course.

Not only has coca-cola completely dominated the market of soft drinks, it’s also the most widely distributed physical product in the entire world.

But how can this be? It’s just a regular soft drink?

The result is an effect of a great product with both the desirable taste and stimulus from sugar and caffeine, something it was a first mover on. This was combined with an excellent marketing strategy that has triggered the psychological systems inherent in humans.

Charlie Munger puts it this way:

"The brain of man yearns for the type of beverage held by the pretty woman he can't have".

-Charlie Munger

Then there’s the ease of availability in stores and the social proof attached to the brand.

All these systems at work pulling in the same direction have created the Lollapalooza effect for coca-cola and an incredible moat to keep competitors from nagging on Coca Cola’s market share.

However, Charlie points out that identifying where and when these Lollapalooza effects can happen is difficult, because it requires a multidisciplinary approach.

You will need, not only to have a good understanding of economics, business and the industry you are interested in, you will also need a good understanding of basics in subjects like psychology, statistics and business law.

This is the secret sauce that can help you find stocks that will skyrocket. But more on this in takeaway number two.

3. Learn from other peoples' mistakes

In Poor Charlie’s Almanack, Charlie Munger presents a recipe for misery – if you are into that.

One of the ingredients for great misery is to learn everything you possibly can from your own mistakes, instead of learning from other people’s experiences – both living and dead people.

You can see the results of not learning from other people’s mistakes by simply looking around you. There’s a constant stream of drunk driving deaths, for example.

A little bit less dramatic, but still a fatal mistake for an investor, is the tendency for people and companies to fall into bankruptcy due to financial leverage.

By ignoring the lessons that other people already have learnt, you will for sure become miserable and you’re guaranteed of reaching a second rate achievement.

If you instead start with learning from others, preferably from the masters within the field you wish to accelerate in, you will find yourself make headway much faster than walking on every mine by yourself.

Yes, it might be less exhilarating diversifying into ten different stocks than going all-in in a micro-cap company, but you will most likely end up with a much more solid result.

So, study history: what made great people great? And look around you: what is it that slows people down? And when within a certain field – climb the shoulders of giants.

Charlie Munger and Warren Buffett climbed the shoulders of Benjamin Graham and Philip Fisher, and then proceeded from there. And look where it got them. Their company Berkshire Hathaway is now the sixth most valuable stock market company in the entire world.

"If I have seen a little further than other men it's because I stood on the shoulders of giants"

-Sir Isaac Newton

2. Become a Swiss army knife

Investing and anticipating a company’s future cash flow is, in a way, just a form of problem solving – one that requires a multidisciplinary approach.

Companies are oftentimes like complicated organisms.

On the internal side, you have products, people, processes, incentives, culture leaders and so forth.

On the external side, you have an ecosystem with laws and regulations, competitors, suppliers, buyers and macro trends and so forth.

All this boils down to a rather complex situation with a lot of variables that will affect the company’s future cash flow.

In order to understand this puzzle, you will need to equip your mind with the mental version of a Swiss Army Knife.

Have you heard about the man with a hammer syndrome?

In essence, for a person that only has a hammer in his toolbox, he will deal with every problem like it was a nail and hammer away on it. He will do this, even though the problem might actually be a screw, and require a screwdriver.

In investing, you don’t want to be the man with a hammer.

To become a successful investor, you will need a toolbox that includes many different tools that are readily available at your disposal.

Yes, all investing requires a sound understanding of finance, like understanding what type of investments that will perform well during periods of high inflation, which you can learn about in my summary of The University of Berkshire Hathaway.

But you will also need to understand history, psychology, politics, mathematics, engineering, biology, business law, statistics and so on.

Not understanding at least the basics of these different fields will force you to undertake hidden risks – unknown unknowns which disables your potential as an investor.

A great way to excel in these major fields is to read her lots. Charlie Munger puts it this way:

"In my whole life. I have known no wise people who didn't read all the time".

-Charlie Munger

Just go to Amazon, enter the different categories, find the best books in a variety of subjects and then turn the reading lamp on.

"Just as multiple factors shape almost every system, multiple models from a variety of disciplines, applied with fluency, are needed to understand that system".

-Charlie Munger

1. Charlie Munger's investing checklist

Charlie Munger has a very structured mind, and so is his method when it comes to investing.

He says that no wise pilot, no matter how great his talent and experience, fails to use his checklist, and this goes for investing as well.

Charlie Munger’s checklist for investing Risk:

All investments should begin by measuring risk.

Use a margin of safety
More risk requires additional compensation
Avoid big mistakes and permanent capital loss

Independence: only in fairy tales are emperors told they are naked.

Think for yourself. You cannot stay objective and rational while listening to Wall Street hogwash
That people are agreeing with you doesn’t make your analysis correct, nor does people disagreeing with you make it wrong
Mimicking the herd will give you the results of the herd

Intellectual humility: Acknowledging what you don’t know is where you should begin.

Stay within your circle of competence
Identify and think through evidence that goes against your own view
Above all, never fool yourself
And remember that no one is as good at it as you are

Allocation: Proper allocation of capital is an investor’s number-one job.

Remember that there’s always an opportunity cost
Good ideas are rare
When the odds are greatly in your favor – bet heavily
Don’t “fall in love” with an investment. Stay sceptic

Patience: Resist the human bias to act.

Compound interest is the eighth wonder of the world, never interrupt it unnecessarily
The process is where you live, so remember to enjoy it along with results
Guard against the effects of hubris and boredom

Decisiveness: When proper circumstances present themselves, act with decisiveness and conviction.

Be fearful when others are greedy and greedy when others are fearful
Opportunity doesn’t come often, so seize it when it does
Stay prepared. Opportunities can only be identified by those who are

Joe