If you are a marathon runner and you take a couple months off to check out which toppings at Fortel’s Pizza Den are the best while spending your evenings trying to determine which of Baskin Robbins’ 31 flavors is truly the best, what do you think will happen?
Among other things, you probably won’t be able to run a marathon anymore. That is because marathon running is the type of life skill that is in need of constant maintenance—if you take a couple months off from running, you’ll have to go back to nearly scratch and build up your stamina all over again. No matter how fast you once were, if you take a couple months off from exercising, you’re not in all that much better shape than the person with a similar profile that had never been in such good shape in the first place. With most physical activities, the mantra “If you don’t use it, you lose it” seems to be an accurate description of the skillset.
But investing is a different animal. The skill set is cumulative over time.
That is a huge blessing for us as investors: if we keep an open mind and maintain our thirst for knowledge, we should be better investors when we are fifty years old than when we are forty years old. We should be better investors when we are sixty years old than when we are fifty years old. And so on. The reason why I say this is a blessing is because, when we reach the point of retirement, it is by definition the most important time in our lives when we need to be good investors. If you are twenty-five years old and screw up, you can work some extra hours, cut your spending, and voila, you’re back to where you were before your investing mistake. But if you do not have that kind of safety net with retirement investing. If you make a mistake, there is no more money from your job coming in that you can use as patchwork to cover up your errors. Thankfully, if we are willing to learn from our mistakes, we can minimize that risk due to the blessing of experience. You’ll be look Dumbledore in one of the later Harry Potter movies. You’ll always know what spell to use because you have “been there, done that” before.
When you are first starting out, everything about investing is new. What is a Roth IRA? What are those P/E ratios that everyone is talking about? Why are people willing to pay 21x earnings for Coca-Cola when it is expected to grow at 8-10% over the next five years, while they are only willing to pay 9x earnings for an oil company like Chevron that is also expected to grow by 8-10% over the next ten years? Why is book value an absolutely crucial metric when you talk about a financial institution like Bank of America, but becomes virtually irrelevant when discussing a technology company like IBM or Microsoft? As you learn the answers to those questions, it becomes something that stays with you for life. You’ll never forget it.
I’ll give you an example from my own life. When I was reading the biography of Charlie Munger, the Vice Chairman of Berkshire Hathaway and a man that I can fairly classify as a personal hero of mine, he mentioned that steel companies are the kinds of investments “where smart people lose their money.” The reason Munger said that is because investors always see steel companies trading at a low P/E ratio, and think they represent a great value investment. The problem with this, Munger mentions, is that investors perpetually understate the amount of money a steel company must reinvest back into the business just to tread water. This fact usually prevents steel companies from creating inflation-adjusted wealth for shareholders over the course of the business cycle.
Once I read Munger say that, it got stuck in my head. It’s something I’ll carry with me for life. I could be a fifty year-old man, see a steel company seem cheap at 7x earnings, and I’ll likely recognize the company for the trap it is because of a technique I picked up from Charlie Munger in my early 20s. This is why most investing legends are old guys. Not only did they have a lifetime to let the snowball we call “compounding” roll down the hill, but they also had four or five decades to accumulate skills that come together to create a pretty formidable arsenal of investment knowledge.
That is why it can be useful to be a voracious reader of investing blogs. In many areas of life, the skill sets come with an expiration date. If you cannot put your learned knowledge to use soon, the passage of time will cripple your ability to use it effectively. But investing is different. Each skill today is something that you can pull out of your pocket many tomorrows down the road. If you were a General Electric shareholder that got burned in 2007 and 2008, you will probably never again by a bank with a low-tier one common ratio that also has poor liquidity. At the very least, it would take a competing impulse (i.e. the greedy desire to make a quick buck if the financial sector gets hot and has a couple 30% years) to cause you to override the lessons you learned years ago from General Electric. In twenty years, it is almost assured that Lebron James will not be as good of a basketball player as he is today. But in twenty years, it is also almost assured that you will be a better investor than you are today if you keep your mind open and always search for something new.
Originally posted 2013-06-04 09:00:05.