Most investors could do better if they acted more like historians and psychologists and less like meteorologists.

Meteorologists try to forecast exactly what’s going to happen next, particularly over the short run. Weather predictions are technical, precise, and always changing.

Historians and psychologists look for broad trends of what people tend to do over time.

What do people like?

How do they behave?

How are they flawed?

How can you overcome those flaws?

How do all those things apply to you?

What matters most over time as an investor are not the short-term technical details. It’s mastering the long-term behaviours that define how people think about risk, greed, fear, and opportunity that separates the successful from the frustrated.

Finance is overwhelmingly taught as a math-based field, where you put data into a formula and the formula tells you what to do, and it’s assumed that you’ll just do it.

This is true in personal finance, where you’re told to have a six-month emergency fund and save 10% of your salary.

It’s true in investing, where we know the exact historical correlations between interest rates and valuations.

And it’s true in corporate finance, where CFOs can measure the precise cost of capital.

It’s not that any of these things are bad or wrong. It’s that knowing what to do tells you nothing about what happens in your head when you try to do it.

Think more broadly, less technically.

The post How to think as an investor appeared first on The Motley Fool UK.

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Remain steadfast, embrace change, and don’t let short-term discomfort distract you from your long-term investing goals.

You can focus on a million different things in investing. But over time, a few things – a few skills, a few decisions, a few data points – tend to make most of the difference.

Four investing skills stick out in my mind:

1. Recognising the Difference Between Patience and Stubbornness. Two things are true:

Every asset goes through temporary out-of-favour periods, and the world changes, and some things fall permanently out of favour. Industries go through normal cycles, then they die. Investing strategies work for decades, then they stop.

Realising that patience plays the most important role in investing but that it shouldn’t be used blindly in every situation is hard. Employing it requires a combination of conviction and flexibility that can feel like a contradiction.

The trick – and that’s the right word – is realising that some behaviours never change, but the composition of the economy always does. Having a few immutable beliefs but even more that you’re willing to abandon is a rare investing power.

2. Having Low Susceptibility to FOMO (Fear of Missing Out)

The urge to buy an investment because its price went up means you probably don’t know why the price has gone up. And if you don’t know why the price has gone up, you’re more likely to bail when it falls – which can be the worst possible time to sell.

Quash the need to own what’s going up the most and you reduce the urge to abandon whatever eventually goes down.

3. Becoming Comfortable Being Miserable

And misery can come in many forms. Losing money can be miserable. So is the honest admission that your investment success might not have come entirely from skill. So is the inevitable doubt among your investors, co-workers, spouse, and friends during a stretch of losses.

The trick is not assuming you can avoid any of those but becoming comfortable and accepting when they arise.

4. Defining and Understanding What Game You’re Playing

Nobody should pretend a 17-year-old day trader has the same risk tolerance as a 97-year-old widow on a fixed income. Nobody should pretend they should have the same reaction to a piece of news. But we so often do by default – trying to find the “best” investment without understanding who we’re finding it for.

Many investing debates don’t reflect genuine disagreement; they reflect investors playing different games, talking over each other, upset that people who don’t want what they want can’t see what they see. Understanding your game without being swayed by people playing different games is an investing power.

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WASHINGTON, DC — There’s a thin line between informed contrarian opinions and people just trying to screw with your emotions.

Take this recent article, called, “If You Have Savings In Your 20s, You’re Doing Something Wrong.”

Oh, boy. It deserves a rebuttal.

The article begins with advice the author received from a friend. “Don’t save money. Make more money,” he told her.

She explains life before this moment:

Before this piece of advice, I was frantic. I was always doubting and always feeling guilty. I lived in the most exciting city in the world (also the most expensive) and had yet to experience it.

I was trying to save, which meant trying not to eat. I wasn’t going out with friends, had yet to go to a club and had never seen the inside of a taxi.

I couldn’t enjoy my life because I was too busy worrying about my bank statement. I was too busy watching my savings instead of savoring my youth.

OK, young people should see the world, meet people, and learn new stuff.

But, two things.

• If you can’t enjoy time with friends without spending all your money, you’re doing it wrong and your friends don’t actually like you. People have been enjoying themselves long before $65 brunches were a thing.
• The decision isn’t between saving or not saving, but finding a balance between the two that lets you enjoy life while being smart about your future.

Now, here’s a rebuttal to some of the author’s points about not saving in her 20s. 

“When did our 20s start to feel like our 40s?”

Specifically around age 25, when your prefrontal cortex becomes fully developed and you’re able to make better decisions about the future consequences of your actions. 

“What memorable experience does money in the bank give you?”

To think of a few …

Waking up at age 63 with a sore back and saying, “You know what, I’m too old for this. Time to retire to Florida and watch House of Cards.”

Getting laid off and not wondering how you’re going to pay bills this month.

Giving your kids the same opportunities your parents worked their butts off to give you.

I imagine those will be memorable experiences.

“[Parents] want us to save because it provides us with a safety net, but that’s exactly why we shouldn’t. Their need for us to have a safety net is just a giant metaphor for the difference between our parent’s generation and ours.”

Another possibility is that they’re sick of being your safety net.

“When you die, you can’t take your money with you.”

You probably won’t die in your 20s, so don’t spend too much time thinking about this.

“People who are saving in their 20s are people who don’t set their sights high. They’ve already dropped out of the game and settled for the minor leagues.”

This is actually a good analogy. Most major-league athletes go broke because their spending ambitions are so detached from their income reality. 

“Everything works out, and if you’re smart, able and had a job once, you’ll have one again.”

The time between now and things working out can be miserable if you don’t have savings. More than likely you’ll rely on someone who did save money, and pay them a 20% interest rate.

“When you have something to bank on, you have nothing to reach for.”

Other than savings. You can reach for your savings and use it fund whatever you need or want.

“Those who don’t plan for the future aren’t planning for their death.”

People who plan for the future aren’t planning for their deaths either. They’re planning for retirement, tuition, broken down cars, a new roof, a broken ankle, and a million other realities everyone deals with.

“When you’re saving for yourself, you’re refusing to bet on yourself.”

By saving, I’m betting that life’s expenses won’t perfectly line up with my bi-weekly paychecks. It’s a bet with a 100% likelihood of paying off. 

“You’ll regret the experiences you didn’t take, the people you didn’t meet and the fun you didn’t have.”

Another thing you’ll regret is needing a new muffler and having to put it on your credit card or beg your parents for money. 

“When you care about your 401k, your life is just ‘k'”

See if your doctor accepts this joke as payment when you’re 82 and can’t afford an office visit.

“Refusing to give yourself the luxury of enjoying your money negates the whole point of making it.”

Money buys more than luxuries. One of the best things savings provides is control over your time, which is actually the best way to see the world, meet people, and learn new things. 

“We’re not trying to live with safety nets; we’re trying to live on the edge.”

Good luck, young lady.

For the rest of you, for the love of everything sane, please save your money. 

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WASHINGTON, DC — The secret to investing is the willingness to put up with pain. Avoid the destruction of throwing in the towel when the market plunges, and you’ve figured out most of this game.

Warren Buffett said “be greedy when others are fearful,” but you really don’t need to be. Keep your head on straight when others are fearful – like last week — and you’ll do fine. If you can put up with a ceaseless amount of nonsense in the short run, the long run should take care of itself.

So I shook my head when USA TODAY, one of the most circulated newspapers in America, wrote this on Tuesday:
 

If you own an individual stock that falls 10% or more from what you paid, you sell. Period. You don’t rationalise the loss and wait for the “good stock” to “come back.” Investors who dabble with individual stocks understand that getting back to even following a loss greater than 10% is a difficult task.

Hang on!

The article says the 10% rule only applies to individual stocks. “If you’re a long-term investor with a diversified portfolio,” it says, “academic studies have shown it’s much better to ride out the volatility.”

But I still can’t think of any justification for the 10% rule, especially for individual investors.

Leave aside computer trading glitches, which can push shares down by dozens of percentage points for a few minutes before rebounding — a reality that by itself makes the 10% rule a highway to regretful decisions.

I couldn’t find any data backing up the 10% rule. So, I researched it.

The Russell 3000 is an index of the largest 3,000 companies in America. It makes up 98% of the stocks you can buy on the public market.

What percentage of stocks in the index have suffered at least one 10% decline in the last 10 years? Ninety-seven percent, according to data from S&P Capital IQ. So, just about all of them.

In a long enough period, there are no stocks that avoid 10% declines. It’s a normal part of what stocks do.

The article states that the 10% rule applies to shares falling 10% below your own purchase price, not just the market falling 10% from a high. But this isn’t comforting.

I crunched the numbers for the S&P 500, the main US market index, going back to 1957. On 29.8% of days since then, you would have been 10% or more below your purchase price at some point in the next year. That rises to 44% of all days if we look at the subsequent three years.

It’s far worse if you look at some popular individual stocks:

• Google stock is up 1,200% since it went public in 2004. But shares were 10% or more below your purchase price at some point a year later on 43% of all days during that period.
• Apple is up 1,600% in the last decade. But on 44% of days since then, you were 10% or more below your purchase price within a year.
• Amazon is up 26,000% since it went public in 1997. But 58% of days since then left you down 10% or more within a year.

The 10% rule is, in short, a sure fire way to lock in losses and forgo long-term returns.

The heart of the 10% rule is the idea is that a stock that falls 10% has to climb more than 11% to make it back to par. The article wrote: “Investors who dabble with individual stocks understand that getting back to even following a loss greater than 10% is a difficult task.”

But it’s really not. Huge rallies tend to follow huge busts. The bigger the bust, the bigger the subsequent rally. That’s the whole history of stock markets.

The median stock in the Russell 3000 fell 39% in 2008, which is awful. It would need to rise more than 60% from there just to get back to even. Thank God, that’s exactly what happened over the next three years, with a median return of 67.8%.

History repeats this show over and over again. US stocks lost 89% of their value from 1929 to 1933. They needed to rise eightfold from then just to get back to even. Which is exactly what they did from 1933 to 1937, when you factor in inflation and dividends, according to data from Robert Shiller. Big bust, bigger rally.

Now, here’s the point where I play devil’s advocate with myself, and then send the devil back to hell.

According to data from J.P. Morgan, between 1980 and 2014, 40% of companies in the S&P 500 suffered a “catastrophic loss,” meaning they lost 70% or more of their value and never recovered.

But the S&P 500 went up fiftyfold over that period, including dividends. 

How? Because 7% of the index’s components went up tenfold or (much) more.

In all financial markets, a small percentage of companies will make up a large portion of overall returns. That’s how you can earn high returns even when half the stocks in an index permanently lose most of their value.

I could see the logic in the 10% rule if your entire portfolio is made up of just a few stocks. Then you need to cut losses early in case one or two catastrophic losses destroys your whole portfolio.

But the takeaway from that isn’t that you should use the 10% rule. It’s that you should own more than just a few stocks. The 10% rule is like a guide on how to heal the wounds you get when you punch yourself in your face when the appropriate advice is to just not punch yourself in the face to begin with. 

There are two iron rules of investing which make the 10% rule irrelevant: 

• You’re not smarter than diversification is powerful.
• The more you trade, the worse you’ll do.

Successful investing isn’t difficult. Own a diversified portfolio of stocks. Realise that the stock market is volatile. Have a long-term perspective. Period. 

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The Motley Fool owns shares in Google and Apple 

To celebrate their accomplishment, the press offered a yawn and a shoulder shrug. 

Only a few newspapers reported the Wright’s first flight at Kitty Hawk, N.C. All of them butchered the facts. Later flights in Dayton, Ohio, the brothers’ home, still drew little attention.

David McCullough explains in his book The Wright Brothers:

“Have you heard what they’re up to out there?” people in town would say. “Oh, yes,” would be the usual answer, and the conversation would move on. Few took any interest in the matter or in the two brothers who were to become Dayton’s greatest heroes ever.

An exception was Luther Beard, managing editor of the Dayton Journal … “I used to chat with them in a friendly way and was always polite to them,” Beard would recall, “because I sort of felt sorry for them. They seemed like well-meaning, decent enough young men. Yet there they were, neglecting their business to waste their time day after day on that ridiculous flying machine.”

It wasn’t until 1908 — five years after the first flight and two years after the brothers patented their flying machine — that the press paid serious attention and the world realized how amazing the Wrights’ invention was. Not until World War II, three decades later, did the significance of the airplane become appreciated.

It’s a good lesson to remember today, because there’s a growing gripe about our economy. Take these headlines: 

•  “Innovation in America is somewhere between dire straits and dead.”
•  “Innovation Is Dead.”
•  “We were promised flying cars. Instead we got 140 characters.”

The story goes like this: American innovation has declined, and what innovation we have left isn’t meaningful.

Cancer? Not cured. Biofuel? An expensive niche. Smartphones? Just small computers. Tablets? Just big smartphones. 

I think the pessimists are wrong. It might take 20 years, but we’ll look back in awe of how innovative we are today.

Just like with the Wright brothers, most important innovations are only obvious in hindsight. There is a long history of world-changing technologies being written off as irrelevant toys even years after they were developed.

Take the car. It was one of the most important inventions of the 20th century. Yet it was initially disregarded as something rich people bought just to show how deep their pockets were. Frederick Lewis Allen wrote in his book The Big Change:

The automobile had been a high-hung, noisy vehicle which couldn’t quite make up its mind that it was not an obstreperous variety of carriage. 

In the year 1906 Woodrow Wilson, who was then president of Princeton University, said, “Nothing has spread socialistic feeling in this country more than the automobile,” and added that it offered “a picture of the arrogance of wealth.” 

Or consider medicine. Alexander Fleming discovered the antibiotic effects of the mold penicillium in 1928. It was one of the most important discoveries of all time. But a decade later, penicillin was still a laboratory toy. John Mailer and Barbara Mason of Northern Illinois University wrote:

Ten years after Fleming’s discovery, penicillin’s chemical structure was still unknown, and the substance was not available in sufficient amounts for medical research. In fact, few scientists thought it had much of a future.

It wasn’t until World War II, almost 20 years later, that penicillin was used in mass scale.

Or take this amazing 1985 New York Times article dismissing the laptop computer:

People don’t want to lug a computer with them to the beach or on a train to while away hours they would rather spend reading the sports or business section of the newspaper. Somehow, the microcomputer industry has assumed that everyone would love to have a keyboard grafted on as an extension of their fingers. It just is not so …

Yes, there are a lot of people who would like to be able to work on a computer at home. But would they really want to carry one back from the office with them? It would be much simpler to take home a few floppy disks tucked into an attache case.

Or the laser. Matt Ridley wrote in the book The Rational Optimist:

When Charles Townes invented the laser in the 1950s, it was dismissed as ‘an invention looking for a job’. Well, it has now found an astonishing range of jobs nobody could have imagined, from sending telephone messages down fiberglass wires to reading music off discs to printing documents, to curing short sight.

Here’s Newsweek dismissing the Internet as a fad in 1995:

The truth [is] no online database will replace your daily newspaper, no CD-ROM can take the place of a competent teacher and no computer network will change the way government works.

How about electronic publishing? Try reading a book on a computer. At best, it’s an unpleasant chore: the myopic glow of a clunky computer replaces the friendly pages of a book. And you can’t tote that laptop to the beach.

Yet Nicholas Negroponte, director of the MIT Media Lab, predicts that we’ll soon buy books and newspapers straight over the Internet.

Uh, sure.

You can go on and on. Rare is the innovation that is instantly recognized for its potential. Some of the most meaningful inventions took decades for people to notice.

The typical path of how people respond to life-changing inventions is something like this:

• I’ve never heard of it. 
• I’ve heard of it but don’t understand it.
• I understand it, but I don’t see how it’s useful.
• I see how it could be fun for rich people, but not me.
• I use it, but it’s just a toy.
• It’s becoming more useful for me. 
• I use it all the time.
• I could not imagine life without it. 
• Seriously, people lived without it?

This process can take years, or decades. It always looks like we haven’t innovated in 10 or 20 years because it takes 10 or 20 years to notice an innovation. 

Part of the problem is that we never look for innovation in the right spot. 

Big corporations get the most media attention, but innovation doesn’t come from big corporations. It comes from the 19-year-old MIT kid tinkering in his parents’ basement. If you look at big companies and ask, “What have you done for the world lately?” you’re looking in the wrong spot. Of course they haven’t done anything for the world lately. Their sole mission is to repurchase stock and keep management consultants employed.

Someone, somewhere, right now is inventing or discovering something that will utterly change the future. But you’re probably not going to know about it for years. That’s always how it works. Just like Wilbur and Orville. 

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WASHINGTON, DC — Jiddu Krishnamurti spent his life giving spiritual talks. As he got older, he became more candid. In one famous moment, he asked the audience point-blank if they wanted to know his secret.

He whispered, “You see, I don’t mind what happens.”

I’ve spent the last five years as an investor trying to do the same. I’ve made a concerted attempt to care less about what happens in the investment world. I still pay attention, of course. It’s my job. But I’m far more selective about what I read. It has helped more than I could have possibly imagined.

Caring gives a false impression that what you’re thinking about is important. If I pay attention to quarterly earnings, shouldn’t I be a better investor? If I check what the market did this morning, am I not more informed?

Common sense tells you yes. But it’s wrong. More often than not, not caring is the way to go.

My journey started with a realization that the more media investors paid attention to, the worse they did. The more they analyzed, the more decisions they had to make. The more decisions they made, the more chances they had at being wrong, letting their emotions take over, and doing something regrettable. Find someone who has mastered personal finance, and you’ll find someone with a pathological ability to not give a damn.

There are so few exceptions to this rule it’s astounding. Where is the evidence that paying attention to every last piece of market news makes you a better investor? I’ve looked. I can’t find it.

So I stopped caring about a few things.

1. Finding the perfect portfolio

Investors crunch numbers to find the perfect number of international stocks they should own at a certain age, the precise amount they should allocate to bonds, and exactly when they should cut back on stocks when historical models show they’re overvalued.

Here’s the truth: None of these models are perfect, so back-of-the-envelope, “good enough” estimations will usually do just fine.

Harry Markowitz won the Nobel Prize for creating modern portfolio theory, a formula that precisely calculates the optimal asset allocation to maximize return at a given level of risk.

With his own money, he found this too complicated.

“I visualized my grief if the stock market went way up and I wasn’t in it — or if it went way down and I was completely in it,” Markowitz once said. “So I split my contributions 50/50 between stocks and bonds.” 

Good enough.

2. Quarterly earnings

The median company in the S&P 500 was founded in 1949. So it’s 66 years old. Therefore quarterly earnings tell you what happened in the last 90 days, or 0.3%, of its life. The odds that groundbreaking developments will occur in such a short period of time are slim, and they approach zero as time goes on. It’s the equivalent of judging how your day is going by analyzing the last four minutes. 

Amazon.com CEO Jeff Bezos says he runs his life on a “regret minimization” framework. His goal is to look back at age 80 and regret as few things as possible.

What are the odds that I’ll be 80 years old and say, “Man, I wish I paid more attention to Microsoft’s Q2 2011 revenue”? Pretty low. So I choose not to care.

3. Wondering why the market fell

The Dow fell 0.4% a few Wednesdays ago. Why?

Lots of reasons were given. One article blamed fluctuating interest rates. Another cited “Greece worries.” Others pointed to the Fed, weak GDP growth, and falling energy prices.

“Random, unidentified marginal sellers were a little bit more motivated than random, unidentified marginal buyers” wasn’t mentioned. But it’s the best explanation for why stocks fell. The same goes for almost every day.

4. Getting other investors to agree with me

Let’s say your weather app says it’ll be 78 and sunny tomorrow, and mine says it will be 74 and overcast.

Would we argue about this? Go on TV and duke it out? Call each other names?

Of course not. We’d say, “Eh, let’s just see what happens. Probably doesn’t matter either way.”

Investors don’t think this way. The fights people get into about whose forecast is right are off the charts.

Unlike weather, money is an emotional subject. And unlike tomorrow’s temperature, our investment decisions are in our control. So many investors get offended when others disagree with them. But once you realize that A) your views are just as biased as everyone else’s and B) there’s a good chance you’re both wrong, you stop seeing any reason to argue. Debate, sure. But life’s too short to argue.

Investing is so much more fun when you come to terms with these things. Set up a portfolio that suits you — one that lets you sleep at night and gives you a reasonable chance of meeting your financial goals. Give it room for error. Have a backup plan. It’s the best you can do.

After that, you see, I don’t mind what happens.

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You’ve probably heard of it. If not, here’s the short story.

In the 1960s, a psychologist named Walter Mischel studied a group of four-year olds. Mischel was fascinated with his own children’s cognitive development, and how — like most children — they seemed incredibly impulsive.

“I realized I didn’t have a clue what was going on in their heads,” he said recently.

He wanted to measure impulse control, so he came up with a game. A group of children could have one marshmallow right now. It sat on a plate in front of them. Or, if they waited a few minutes while he stepped out, they could have two when he returned.

Some impatiently took the first marshmallow. Others waited. 

Mischel followed the kids for 50 years, measuring how impulse control correlated with future success in life.

It was huge.

Kids who delayed gratification in the marshmallow test went on to achieve higher standardized test scores, had higher educational attainment, even better BMI scores. (One girl ate the marshmallow before the game’s instructions were even explained. Bless her.)

The marshmallow test made its way into seemingly every book, article, and speech about behavioral psychology. I’ve seen it countless times. It’s way overused.

But the most important part of the study is often left out.

The original takeaway from Mischel’s research, and one still told today, was that people with more willpower are set up for more life success than their impulsive peers.

But after watching hundreds of kids take the marshmallow experiment, Mischel discovered something different.

The marshmallow test wasn’t necessarily about willpower. Almost every kid will take the first marshmallow if it’s put in front of them. If they’re looking at it, they’re nearly incapable of not eating it, even if a bigger reward awaits.

Instead, Mischel found that kids who successfully waited for a second marshmallow were often just better at distracting themselves, taking their minds off the treat.

They hid under a desk. Or sang a song. Or played with their shoes.

Impulse control isn’t really about a four year old’s ability to patiently wait for a second marshmallow. It’s more about that four year old’s propensity to say, “Hey, look, a soccer ball!”

Smokers trying to quit consistently overestimate their ability to turn down a cigarette. Dieters do the same. What Mischel’s research shows is if we want to be better at self-control, trying to have more willpower isn’t the solution. Instead, not putting yourself in a position where you’ll be tempted by cigarettes or junk food may be the best answer. Because if you’re around them, you’ll smoke, or eat. You can’t help it.

As Jonah Lehrer once put it: “Willpower is really about properly directing the spotlight of attention, learning how to control that short list of thoughts in working memory. It’s about realizing that if we’re thinking about the marshmallow, we’re going to eat it, which is why we need to look away.”

It is the same in finance.

Bad investing behavior is the greatest cause of investor misery (fees are a close second).

People get excited and buy high, then panic and sell low. They fall for bubbles. They trade. They rotate. They fidget. They worry. They get a new idea, and go all in. Then change their mind, sell it all, and go to something else. 

It’s devastating. If you can find a way to be less emotional and feel less need for constant action in investing, you’ve figured this game out.

But how do you do that?

Just like the four year old who found a path to the second marshmallow. You distract yourself with something else.

If watching financial news constantly tempts you to tweak your portfolio, turn it off.

If reading market forecasts has caused you to make regrettable decisions, stop reading them.

Go do something else.

Maybe read more books and fewer articles.

Be more choosy about who you’re willing to listen to.

The amount of financial information available has exploded over the last decade, but the amount of financial information that you need to be informed has not.

You have to learn how to sift through the news, and filter out what you don’t need. “A wealth of information creates a poverty of attention,” Herbert Simon said. It also creates a dangerous tendency to lose self-control over your ability to be a patient long-term investor.

Just look the other way.

The post Just Look The Other Way… appeared first on The Motley Fool UK.

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• 5 years ago, £5,000 bought 2,645 Barclays shares. But how many would it buy now?

^{A version of this article was originally published on Fool.com}

WASHINGTON, DC — This is Warren Buffett’s office at Berkshire Hathaway (NYSE: BRK-B) headquarters in Omaha, Nebraska.

The portrait behind Buffett’s right arm is his father. The file bin at the end of the desk reads “TOO HARD.” There are some magazines, a pile of newspapers, and a phone.

But notice what you don’t see. There are no stock tickers. No Bloomberg terminals. No charting software. No Twitter feeds. No pundits spouting forecasts. No computer monitors, and maybe not even a calculator. Buffett has created more than a quarter-trillion dollars of value for Berkshire shareholders from this desk over the last 50 years. And he did it while rejecting most of the “tools” investors utilize. We can all learn something from that.

We have more information than ever before. Are we better investors because of it? I don’t know of any evidence that we are. In her book Bull!, Maggie Mahar writes: “The problem is that much of the information that investors want — and think they need — is just that, ‘information,’ not knowledge.”

Good investors read a tremendous amount of information, of course. They’re just perhaps more selective with what they read and pay attention to.

Here are few ways to become more selective.
 

Avoid explanations of random events. Pay more attention to historical context.

People can’t stand the idea that events are random and unexplainable, so they try to attach meaning. You’ll see things like, “Stocks fall 0.5% as investors react to manufacturing data” rather than the more honest, “Stocks fall 0.5% because they just do that sometimes.”

Instead of reading explanations of what the market is doing, pay attention to what the market is doing in a historical context. The next time stocks have a down day, remember that they do that, on average, every other day. The next time stocks decline 10% from a recent high, remember that they’ve done that almost every year since the Civil War. And the next time we have a recession, remember that no one in history has made it to the 5th grade without living through at least one recession.

Trying to explain market moves gives us the impression that we can predict the future, which we can’t. Looking at market moves in historical context reminds us to ignore the noise, which we can.
 

Avoid breaking news. Pay more attention to broad trends.

I found this headline from June 4, 2010: “Stocks Plunge After Weak Jobs Report.”

It’s true: There was a bad jobs report on June 4th, 2010, and stocks did plunge that day. But three years later, who cares? The initial jobs report was revised to show three times as many jobs created than originally thought, and the S&P 500 (SNPINDEX: ^GSPC) has since returned 59%. The must-read headlines from June 4, 2010 is now irrelevant and forgotten. The broader trend — jobs slowly coming back, stocks still cheap — was all that mattered for investors.

Breaking news is designed to tug at your emotions and give a sense of urgency, which is exactly when you’re prone to making bad decisions. Broader trends are more likely to be where the money’s at.
 

Avoid strong opinions. Pay more attention to people who talk about their mistakes.

Psychologist Philip Tetlock has done some of the best work on the science of forecasts. One of his most startling findings is that analysts that are the most confident in their predictions have some of the worst track records, while those with the best records are constantly questioning their beliefs.

The media loves confidence and hates wavering views, so the analyst who yells the loudest gets the spotlight. Which explains another of Tetlock’s findings: Analysts with the highest media profile have some of the worst track records.

Instead of paying attention to strong, loud opinions, give more weight to those who talk about why they could be wrong, what they’ve learned from past mistakes, and those who forecast in probabilities rather than certainties. They are less entertaining, but more likely to give good advice.
 

Avoid elaborate interpretations. Pay more attention to the handful of variables that matter most.

Most 300-page books can be summarized in 30 pages. The same one-tenth rule of thumb is true for most financial news and analysis. 

Investment bankers write incredibly elaborate 100-page deal presentations that I guarantee you no one reads. They just do it because they’re making $1 million a year and they have to show their clients that they put in some effort. Journalists, while paid less, do the same.

You don’t need to know the nitty-gritty details about finance or the economy. The big stuff — how much you need to save to retire, broad valuation metrics, the few industries driving economic growth, the direction of jobs growth — tell you most of what what matters. Not only is excessive volume a waste of your time, but the more granular an analyst becomes, the more prone he is to potential overthinking and confirmation bias. “It’s better to be mostly right than precisely wrong,” as the saying goes.

In the meantime, why not build yourself a “TOO HARD” file bin like Buffett has on his desk.

Until next time, Fool on!

The post Things Investors Should Read. Things Investors Should Avoid. appeared first on The Motley Fool UK.

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• 5 years ago, £5,000 bought 2,645 Barclays shares. But how many would it buy now?

WASHINGTON, DC —  I read the book This Will Make You Smarter. 

It’s an amazing compilation of short essays written by some of the world’s most talented scientists, authors, and businessmen, written in a way anyone can understand.

The contributors were asked, “What scientific concept would improve everybody’s cognitive toolkit?”

Let me tell you, the book lives up to its title. 

Here are six passages I found especially smart. 

1. Science is never certain:

There is a widely held notion that does plenty of damage: the notion of “scientifically proved.” Nearly an oxymoron. The very foundation of science is to keep the door open to doubt. Precisely because we keep questioning everything, especially our own premises, we are always ready to improve our knowledge. Therefore a good scientist is never “certain.” Lack of certainty is precisely what makes conclusions more reliable than the conclusions of those who are certain, because the good scientist will be ready to shift to a different point of view if better evidence or novel arguments emerge. Therefore certainty is not only something of no use but is also in fact damaging, if we value reliability.

2. Learn from as many disciplines as you can:

If I do my job right, my regular readers will never realize that I spend a fair amount of my leisure time reading Current Biology, The Journal of Neuroscience, and Organizational Behavior and Human Decision Processes . If that reading helps me find new ways to understand the financial world, as I suspect it does, my readers will indirectly be smarter for it. If not, the only harm done is my own spare time wasted. In my view, we should each invest a few hours a week in reading research that ostensibly has nothing to do with our day jobs, in a setting that has nothing in common with our regular workspaces. This kind of structured serendipity just might help us become more creative, and I doubt that it can hurt.

3. Happiness is complicated:

On average, individuals with high income are in a better mood than people with lower income, but the difference is about a third as large as most people expect. When you think of rich and poor people, your thoughts are inevitably focused on circumstances in which income is important. But happiness depends on other factors more than it depends on income. Paraplegics are often unhappy, but they are not unhappy all the time, because they spend most of the time experiencing and thinking about things other than their disability. When we think of what it is like to be a paraplegic, or blind, or a lottery winner, or a resident of California, we focus on the distinctive aspects of each of these conditions. The mismatch in the allocation of attention between thinking about a life condition and actually living it is the cause of the focusing illusion.

4. You’re nothing special: 

The mediocrity principle simply states that you aren’t special. The universe does not revolve around you; this planet isn’t privileged in any unique way; your country is not the perfect product of divine destiny; your existence isn’t the product of directed, intentional fate; and that tuna sandwich you had for lunch was not plotting to give you indigestion. Most of what happens in the world is just a consequence of natural, universal laws — laws that apply everywhere and to everything, with no special exemptions or amplifications for your benefit — given variety by the input of chance . Everything that you as a human being consider cosmically important is an accident. The rules of inheritance and the nature of biology meant that when your parents had a baby, it was anatomically human and mostly fully functional physiologically, but the unique combination of traits that make you male or female, tall or short, brown-eyed or blue-eyed, were the result of a chance shuffle of genetic attributes during meiosis, a few random mutations, and the luck of the draw in the grand sperm race at fertilization.

5. But everyone thinks they are:

In one College Board survey of 829,000 high-school seniors, 0 percent rated themselves below average in “ability to get along with others,” 60 percent rated themselves in the top 10 percent, and 25 percent rated themselves in the top 1 percent. Compared with our average peer, most of us fancy ourselves as more intelligent, better-looking, less prejudiced, more ethical, healthier, and likely to live longer — a phenomenon recognized in Freud’s joke about the man who told his wife, “If one of us should die, I shall move to Paris.”

6. You can never be too open-minded: 

The core of a scientific lifestyle is to change your mind when faced with information that disagrees with your views, avoiding intellectual inertia, yet many of us praise leaders who stubbornly stick to their views as “strong.” The great physicist Richard Feynman hailed “distrust of experts” as a cornerstone of science, yet herd mentality and blind faith in authority figures is widespread. Logic forms the basis of scientific reasoning, yet wishful thinking, irrational fears, and other cognitive biases often dominate decisions.

Go buy the book here. It’s wonderful. 

The post 6 Things I Learned From The Book “This Will Make You Smarter” appeared first on The Motley Fool UK.

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• 5 years ago, £5,000 bought 2,645 Barclays shares. But how many would it buy now?

WASHINGTON, DC — Finance doesn’t have to be hard. You just have to think of it in simple terms. 

How to think about market volatility: Pick a million random people from around the world every day. Some days, 51% would be in a good mood, 49% in a bad mood. The next day maybe it’s the opposite. Other days, random chance could mean 8% of people are pissed off for no explainable reason. This is basically what the market is on a day-to-day basis.

How to think about hedge funds: Probably 100 are legitimately talented and can consistently beat the market with below-average volatility. They won’t take your money. The rest charge ten times the fees of mutual funds for half the performance of index funds, pay half the income tax rates of taxi drivers, and have triple the ego of rock stars. Basically a conduit between public pension funds and private jet brokers.

How to think about (many) economists: A car mechanic who says your air conditioner is fixed if you just assume there’s cold air coming out of it. Your car doesn’t even have an air conditioner. This doesn’t change his opinion.

How to think about recessions: Everyone wants to see Kobe Bryant play all game. But sometimes he can’t. You’ll wear the poor guy out. He needs to sit on the bench once in a while. The sponsors will say, “You can’t do that! We don’t make money off him when he doesn’t play!” They’re right, but only in the short run. Everyone – the team, the fans, the sponsors, and Kobe himself – will be better off in the long run if you let him take a break once in a while. He needs to rest his overworked knee and learn from the mistakes he made last quarter. Don’t worry; he’ll be back.

How to think about IPOs: There’s a new movie out. It looks awesome. You can go see it opening night but the lines are probably really long. Or you can wait a few weeks, go see the same movie, without the crowds, and pick a better seat in the theater. Do that. 

How to think about dividends and capital gains: Dividends are your annual salary – pretty steady and even, and you should consider it a huge part of your overall pay. Capital gains are your Christmas bonus – big some years, nonexistent other years, and no one will feel bad for you when it’s volatile.

How to think about pundits: People who profess to have knowledge about things that can’t be known. Combines the skill of an actor, the ridiculousness of a comedian, the believability of priests, and the credibility of politicians.

How to think about margins of safety: You’re building a foot bridge. You can design how much weight it can hold. The heaviest you’ve ever been is 165 lbs. An engineer says, “Let’s build it to hold 166 lbs.” You think that’s crazy, and say it should be able to hold 250 lbs. The engineer doesn’t understand. After a freak illness causes you to put on 50 lbs., he gets it.

How to think about Warren Buffett: If Michael Jordan looked and sounded like such a normal guy, you’d think you could dunk from the free-throw line, too.

How to think about economic data: Ideally we’d have 500 years of unimpeachably perfect data. In reality we have about 50 years of so-so data. If we had the former, we’d learn that so much of what we’ve learned from the latter is wrong and incomplete.

How to think about patience and investing: A guy pulls grapes off a vine, smashes them in his hand, drains the juice into a cup and says, “This wine is awful.” Someone tells him he needs to let it age first. An hour later he says it still doesn’t taste like wine, and gives it to his friend. His friend stores it in his basement for 20 years and has the best wine you’ve ever tasted.

How to think about long-term investing: The labors of your past self work hard while your current self does nothing so your future self will be better off.

How to think about compound interest: Little slaves that work for you while you sleep and breed like rabbits. 

How to think about chart patterns: Palm reader with an Etch-a-Sketch.

How to think about bubbles: The masses lose their minds ever 10 years. Afterwards, you fool yourself that you won’t lose yours 10 years from now.

How to think about bull markets: Most businesses, CEOs, consumers, and countries wake up in the morning wanting to do a little bit better and make the world better off. Rising stock prices over time reflect their progress.

How to think about bear markets: They overdo it sometimes. Not a huge deal. Everything that lives and breathes needs a break once in a while. Let it rest and wait for it to get back in the game.

How to think about people who disagree with you: Guy from Minnesota says it’s cold in the winter. Guy from Mexico disagrees, says it’s hot in the winter. Both have a hard time realizing they’re each right based on their own unique life experiences. They call each other idiots in the comments section of news article that has nothing to do with weather.

How to think about the intersection of politics and investing: As little as possible. 

The post Easy Ways to Think About Hard Finance Stuff appeared first on The Motley Fool UK.

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• Starting with nothing? Here’s why now is the perfect time to start building a passive income
• Decided not to bother with a Stocks and Shares ISA? You might be missing these 3 things!
• Why is everyone buying GSK shares?
• £10,000 invested in easyJet shares at the start of 2026 is now worth…
• 5 years ago, £5,000 bought 2,645 Barclays shares. But how many would it buy now?