The irrational “Mr Market”
Charlie Munger is one the most influential investors in the world today. As a founding partner of Berkshire Hathaway with Warren Buffett, Munger is known for his ability to logically process a number of steps in quick succession by employing about 90 relatively simple mental ‘models’.
You may be interested in the link below – to a speech that Charlie Munger presented and in which he discusses many of these models. The speech is well worth a read if you seek to improve your ability to make logical investment decisions (indeed, many of our blog posts reference these models in some way).
One critical concept which is discussed at the end of the speech is Munger’s explanation of Ben Graham’s “Mr. Market” allegory. In a display of agreement with Ben Graham (they didn’t see eye to eye on many other issues) Munger also thinks about “Mr. Market” as an irrational investor that comes by and says, “”I’ll sell you some of my interest for way less than you think it’s worth.” And other days, “Mr. Market” comes by and says, “I’ll buy your interest at a price that’s way higher than you think it’s worth.”
We highly encourage you to read this section – too often investors are influenced by the media and commentators reporting about “milestones” achieved by the stock market. Having the All Ordinaries benchmark go through 5000, or having the Dow Jones reach record highs are great headline grabbers, but ultimately they distract investors from that which is relevant.
It is inherently risky, not to mention unnecessary, to predict where Mr. Market will go.
The fundamental value of companies, which is determined in isolation from the market, can be estimated and considered through Mungers framework.
At Montgomery Investment Management, we focus solely on this and consider what the prospect for change might be. If bright, we are more comfortable with a high concentration of the portfolio (without betting the farm of course) invested in the business and when Mr. Market is depressed we take full advantage of his stupor. When Mr. Market is jubilant, we are equally unemotional in our decision to sell. And experience has taught us to be early rather than late!
Charlie Munger’s models resonate with us and we think they might with you. Read the speech in full here.
This post was contributed by a representative of Montgomery Investment Management Pty Limited (AFSL No. 354564). The principal purpose of this post is to provide factual information and not provide financial product advice. Additionally, the information provided is not intended to provide any recommendation or opinion about any financial product. Any commentary and statements of opinion however may contain general advice only that is prepared without taking into account your personal objectives, financial circumstances or needs. Because of this, before acting on any of the information provided, you should always consider its appropriateness in light of your personal objectives, financial circumstances and needs and should consider seeking independent advice from a financial advisor if necessary before making any decisions. This post specifically excludes personal advice.
INVEST WITH MONTGOMERY
David S
:
Very true Roger, I was actually trying to apply a value based selling discipline rather than time the market as its also held me in good stead a couple of times in the past. I noticed that Skaffold shows that the ASX200 is overvalued at the macro level and I am struggling to find anything of quality and value to replace these stocks with. Perhaps I wanted to let things run with blind faith in the market’s over-exhuberance but I have Buffett’s number one rule on capital preservation ringing in my ear and I think that we may be able to pick some stocks up with a margin of safety again (perhaps not as much as 20% though). So far it has put me in front but I’ll be keeping a close eye on what transpires in terms of prices or valuation changes. My only other option is to move all of my funds into overseas markets where there is a lot more value but it would expose me to a lot more FX risk.
Roger Montgomery
:
possibly very positive FX risk…
Andrew Legget
:
Thanks for providing a link to this, i read it a couple of years ago and quite liked it and agree with it that by learning and understanding models and applying them to the world you can help understand things a lot better.
I sometimes prefer listening to Charlies take on things than even Warren Buffets some time. He comes out with some great comments and there is a hint of a rebel and subversive bent to his comments. He comes across to me as someone who considers himself an outsider of the regular walls treet crowd and likes it that way.
Talking about models, one thing i have found since i have delved into investing in a much deeper level is that it is amazing how often certain business models find their way into multiple industries. Uncovering this has helped me be able to ignore the noise a bit more and understand the business better. Facebook isn’t all that different from a television network as an example (both businesses revolve around attracting “eyeballs” so they can make more money through advertising), Casino’s and fashion companies tend to have similar characteristics as well.
In regards to worldly wisdom, well i think an understanding or just acceptance for human psychology is a big one, although not precise model. Accepting that people will not act rationally in their money related decision making was almost a nirvana moment for me when trying to be a value investor. It allows you to spend less time worrying about what other people think and the much easier task of working out what the quality the business is. Patience and observation is another.
By allowing yourself to take in models and theories from many disciplines and situations and understanding them, you will be amazed at how many things you can use to improve your investing.
David S
:
I sold out of everything I am holding in Australia last week with some impressive gains (mainly FLT, CCP, SEK and CWP) based partially on valuations but I also didn’t like what I saw in the market. A couple of these were still looking OK on valuations but I noted the Montgomery fund had taken some profits and the market was looking a bit toppy. I know I shouldn’t be paying attention to Mr Market but it looked like the writing was on the wall with the constant drive up and we were due for a pull back and maybe some negative news (e.g. Cyprus). I’m hoping to get back into my favourite stocks again at more reasonable prices and do it all again. I kept all my US stocks though as they are still undervalued but I wouldn’t be surprised if there is some decline in these too in the short term. I feel our market has got ahead of itself in some sectors (i.e. the chase for “income stocks”). Are others holding out or following suit?
Roger Montgomery
:
Thanks David, we are constantly learning that we aren’t clever enough to get in an out and in again and do better than just staying in.