How Much Research and Analysis Are Sufficient?

Seth Klarman, an investor and head of The Baupost Group, shares his take on a question that comes up in all sorts of situations. This is a brief excerpt from his book Margin of Safety: Risk-Averse Value Investing Strategies for the Thoughtful Investor which is, unfortunately, out of print and very expensive to acquire your own copy of.

Some investors insist on trying to obtain perfect knowledge about their impending investments, researching companies until they think they know everything there is to know about them. They study the industry and the competition, contact former employees, industry consultants, and analysts, and become personally acquainted with top management. They analyze financial statements for the past decade and stock price trends for even longer. This diligence is admirable, but it has two shortcomings. First, no matter how much research is performed, some information always remains elusive; investors have to learn to live with less than complete information. Second, even if an investor could know all the facts about an investment, he or she would not necessarily profit.
 
This is not to say that fundamental analysis is not useful. It certainly is. But information generally follows the well-known 80/20 rule: the first 80 percent of the available information is gathered in the first 20 percent of the time spent. The value of in-depth fundamental analysis is subject to diminishing marginal returns.

And:

Most investors strive fruitlessly for certainty and precision, avoiding situations in which information is difficult to obtain. Yet high uncertainty is frequently accompanied by low prices. By the time the uncertainty is resolved, prices are likely to have risen. Investors frequently benefit from making investment decisions with less than perfect knowledge and are well rewarded for bearing the risk of uncertainty. The time other investors spend delving into the last unanswered detail may cost them the chance to buy in at prices so low that they offer a margin of safety despite the incomplete information.

While he’s looking at this question from an investor’s perspective, even if you’re not an investor, the piece is thought provoking. especially to anyone involved in knowledge work or who has to make decisions (and who isn’t?)

Some Thoughts About Investing

Warren Buffett, in his latest letter to shareholders, February 28, 2014, page 17:

If “investors” frenetically bought and sold farmland to each other, neither the yields nor prices of their crops would be increased. The only consequence of such behavior would be decreases in the overall earnings realized by the farm-owning population because of the substantial costs it would incur as it sought advice and switched properties.
 
Nevertheless, both individuals and institutions will constantly be urged to be active by those who profit from giving advice or effecting transactions. The resulting frictional costs can be huge and, for investors in aggregate, devoid of benefit. So ignore the chatter, keep your costs minimal, and invest in stocks as you would in a farm.

’29 Dumb Things Finance People Say’

Morgan Housel for The Motley Fool:

My job requires reading a lot of financial news. It’s one of my favorite parts. But it gives me a front-row seat to the downside of financial journalism: gibberish, nonsense, garbage, and drivel. And let me tell you, there’s a lot of it.

Here are a few stupid things I hear a lot.

This is classic.

(I should do one of these for technology journalists and/or technologists.)

Response to an Investment Question Posed by a Friend

A friend posed this question to a few folks, myself included. I started to respond directly, then it turned into a blog post (the one you now find yourself reading).

It ended up presenting a nice opportunity to share some of my bottled up investing thinking, which being a solo investor I don’t often share with others, and others don’t typically get to benefit from.

Here’s his question that sparked this:

Not sure how many of my FB friends would know about this but… does anyone have thoughts on the strategy in this article? Sounds fairly legitimate, but it’s also a lead-gen article for some kind of info product so they may not be interested in being totally straightforward.

http://www.dailyfinance.com/2013/11/19/safe-investments-high-yield-preferred-stock/

Below you’ll find my initial response to him, followed by my more extensive response, which became this blog post. Oh and there’s a disclosure wedged in the middle. Don’t overlook that. :-)