Charlie Munger is an investor, businessman and philanthropist, vice Chairman of Berkshire Hathaway and long-life business partner of Warren Buffet. Religious in his objectivity, Charlie is content to swim imperturbably against the tide of popular opinion. Poor Charlie’s Almanack is a curation of Charlie’s wit and wisdoms over a near century (Charlie is 93). As its core, Charlie teaches us how to build mental models to make better decisions.
Multiple Mental Model Approach to Investing:
Quickly eliminate the big universe of what not to do, followed up with a fluent, multidisciplinary attack on what remains, then act decisively when, and only when, the right circumstance appears.
Being prepared on a few occasions in a lifetime, to act promptly in scale, in doing some simple and logical thing, will often dramatically improve the financial results of that lifetime.
In the absence of multiple mental models, to the man with only a hammer, every problem looks like a nail.
Multiple Mental Models
- Commit far more time to learning and thinking than doing.
- Charlie’s self-confidence is based not on who, or how many, agree or disagree with him, but on his ability to objectively view and measure himself.
- People aren’t going to keep learning who don’t like the learning process.
- I’m right, and you’re smart, and sooner or later you’ll see I’m right.
- More often we’ve made extra money out of morality.
- We try more to profit from always remembering the obvious than from grasping the esoteric.
- Temperament alone won’t do it. You need a lot of curiosity.
- Charlie and I don’t know our cost of capital. It’s taught at business school, but we’re skeptical. We just look to do the most intelligent thing we can with the capital that we have. We measure everything against our alternatives.
- Our cash is speaking for itself. If we had a lot of wonderful ideas, we wouldn’t have so much cash.
- Once you start doing something bad, then it’s easy to take the next step – and in the end, you’re a moral sewer.
Munger on how to be (and stay) miserable
- Ingesting chemicals in an effort to alter mood
- Be unreliable
- Learn everything you possibly can from your own experience, minimising what you learn vicariously form the good and bad experience of others, living and dead. Don’t learn from the best work done before you.
- Go down and stay down when you get your first, second and third severe reverse in the battle of life.
- Ignore the rustic who said, ‘I wish I knew where I was going to die, and then I’d never go there.’ Many hard problems are best addressed backwards. That is, always give priority attention to evidence tending to disconfirm whatever cherished and hard-won theory you already hold. If you want to be miserable, develop a tendency to process new and disconfirming information such that any original conclusion remains intact. Be one of those people that you couldn’t squeeze a dime between what they already know and what they will never learn.
You’ve got to have models in your head. You’ve got to hang experience on a latticework of models in your head. Examples of mental models include:
- Maths – fermet/pascal combinations/permutations / basic arithmetics
- Accounting basics
- Five W’s – who was going to do what, where, when and why. If you tell somebody why, they’ll understand it better, they’ll consider it more important, and they’ll be more likely to comply.
- Gaussian (or normal) distribution
- Biology / physiology / Psychology (specifically the psychology of misjudgment) – important because we need to understand our genetic makeup and that the perpetual apparatus of man has shortcuts in it. The brain cannot have unlimited circuitry. So someone who knows how to take advantages of those shortcuts and cause the brain to miscalculate in certain ways can cause you to see things that aren’t there.
- Microeconomics – people who narrowly specialise can get terribly good at occupying some little niche. If you get a whole lot of volume through your operation, you get better at processing that volume. Size matters. Not to mention informational advantage and social proof. But occasionally, scaling down and intensifying gives you the big advantage. Bigger is not always better. The constant curse of scale is that it leads to big, dumb bureaucracy – which, of course, reaches its highest and worst form in government where incentives are really awful. So life is an everlasting battle between two forces – to get these advantages of scale on one side and avoid end up doing very little useful work because of bureaucracy.
- With new technology, figure out how much is going to stay home and how much will flow through to customers.
- Everyone is going to have a circle of competence. And it’s going to be very hard to enlarge that circle. Play within your own circle of competence.
- Bet big when you have the odds and the rest of times don’t. It’s that simple.
- What determines the behaviour are incentives for decision maker. What makes sense for the investors is different from what makes sense for the managers.
- Anytime anybody offers you a big commission and a 200-page prospectus, don’t buy it. Occasionally, you’ll be wrong if you adopt the ‘Munger’s rule’ but over a lifetime, you’ll be a long way ahead.
- Spend each day trying to be a little wiser than when you woke up…Slug it out one inch at a time, day by day, and at the end of the day – if you live long enough – like most people, you will get out of life what you deserve.
- Be very wary of heavy ideology.
- When you don’t know – I don’t have any special competence that would enable me to answer that question.
- Models applied to Coca-Cola case study
- No brainer decisions (strong trademarked name, global appeal)
- Run basic numbers (# of customers, market share, # servings, water consumption rates, margin)
- Psychology – operant conditioning and classical (Pavlovian) conditioning, social proof (monkey see, monkey do)
- Think in reverse like Jacobi – what are things to avoid? Terrible aftertaste, losing trademark name, envy and making huge changes to original flavour
- Think lollapalooza effect to ensure success
Perhaps the most valuable result of all education is the ability to make yourself do the thing you have to do, when it ought to be done, whether you like it or not. It is the first lesson that ought to be learned and however early a man’s training begins, it is probably the last lesson that he learns thoroughly.
-Thomas Henry Huxley
Talk Eleven – The Psychology of Human Misjudgment
List of 25 psychology-based tendencies that, while generally useful, often mislead
- 1 Reward/Punishment – Never think about something else when you should be thinking about the power of incentives (appeal to interest, not reason). Get the incentives right. Granny’s rule – eat carrot before dessert.
- 2 Liking/Loving – A man likes being liked and loved. Man will generally strive for affection and approval of many men unrelated to him. This can cause you to 1) ignore faults or comply with wishes of object of your affection 2) to favour people, products and actions merely associated with object of your affection and 3) to distort other facts to facilitate love.
- 3 Disliking/Hating – opposite to above, hate tendencies makes hater 1) ignore virtues in object of dislike 2) dislike people associated with object of hate and 3) distort facts to facilitate hate.
- 4 Doubt/Avoidance – our brain is programmed to quickly remove doubt by reaching some decision, especially effective when we are puzzled or stressed
- 5 Inconsistency Avoidance – Brain’s tendency against change. Chains of habit too light to be felt before they become too strong to be broken. It is much easier to prevent a habit than to change it. It is important not to put one’s brain in chains before one has come anywhere near his full potentiality as a rational person.
- 6 Curiosity – Our curiosity helps us to prevent or reduce bad consequences arising from other psychological tendencies
- 7 Kantian Fairness – a lot of modern day fairness is defined by Kant, rules that may cause you some unfairness but if followed by all others, would be best for everyone
- 8 Envy/Jealousy – Calling people out for what they have done as envy-driven is extremely insulting, especially when it is true
- 9 Reciprocation – our tendency to reciprocate favours and disfavours.
- 10 Influence from Mere Association – advertisement aside, the most important miscalculations are those accidentally associated with one’s past success, or one’s liking or disliking. A man foolishly gambles in the casino and wins for example. The antidote is careful examination of new undertaking and to look for aspects of the new undertaking that were not present from past success. Also develop a habit of welcoming bad news.
- 11 Simple, Pain Avoiding Psychological Denial – usually mixed with love, death and chemical dependency
- 12 Excess Self-Regard – applies to people (you select people who are like you) and possessions (endowment effect – you ascribe more value to things you own). Bad if you have a dysfunctional group of people who self-select only those people who are like them. Hire people based on past record (merit) not face to face interview (impression). Think fair, meritocratic, demanding culture plus personnel handling methods that build up morale and severance of worst offenders. When you can’t sever (your children), you must try to fix the child as best you can.
- 13 Overoptimism – trained, habitual use of simple models to overcome what evolution gave us (e.g. use Fermet/Pascal, not mental rules of thumb when assessing risks)
- 14 Deprival-Superrreaction – Loss hurts more than gain, including loss of almost-possessed reward
- 15 Social-Proof – one automatically thinks or does what he observes to be thought and done around him, most triggered when one is puzzled or stressed. Learn how to ignore the examples of others who they are wrong, few skills are more worth having (vicarious learning through others’ mistakes).
- 16 Contrast-Misreaction – where you buy X comparing and judging its value to an unrelated Y. The danger lies in tiny changes involving low contrast over time, which you don’t notice
- 17 Stress influence – light stress can slightly improve performance, heavy stress causes dysfunction. A breakdown cannot be reversed except by reimposing stress, the more stress required to cause breakdown, the more stress required to bring you back.
- 18 Availability-Misweighing – the mind overweighs what is easily available. An idea or a fact is not worth more merely because it is easily available to you (or your memory).
- 19 Use-It-Or-Lose-It – All skills attenuate with disuse. A wise man practice all of his useful, rarely used skills as a duty to his better self. You need a degree of fluency for it to be useful.
- 20 Drug-Misinfluence – don’t use drugs
- 21 Senescence-Misinfluence – no one is good at learning complex new skills when you’re old. you’re much better learning when young and try to retain those skills
- 22 Authority-Misinfluence – natural follow-the-leader tendency is strong
- 23 Twaddle (talk crap) – It is very important to keep prattling people, pouring out twaddle, far away from serious work. Keep people who don’t matter from interfering with the work of the people who do.
- 24 Reason-Respecting – Giving reason (the why) is powerful, even a person’s giving of meaningless or incorrect reasons
- 25 Lollapalooza – tendency to get extreme consequences from confluence of psychological tendencies acting in favour of a particular outcome.
The best amour of old age is a well spent life preceding it; a Life employed in the pursuit of useful Knowledge, in honourable Actions and the Practice of Virtue; in which he who labours to improve himself from his Youth, will in Age reap the happiest Fruits of them; not only because there never leave a Man, not even in the extreamest Old Age; but because a Conscience being Witness that our Life was well-spent, together with Remembrance of past good Actions, yields an unspeakable Comfort to the Soul.
-Cicero (Discourse of Old-Age)