The Munger Doctrine

For most of us, Charlie Munger was an enigma until about 15 years ago. The compounding of content on the internet brought his genius out of the woodwork. And thank goodness for that.

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Before his well-deserved, exponential rise in celebrity status, his influence on his more famous colleague, Warren Buffett, was well known only among a small, self-declared fellowship of Value Investors. Ironically, that influence on Buffett flew in the face of what people (maybe outside that little fellowship) considered to be the core tenet of Value Investing.

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“…having started out as Grahamites - which, by the way, worked fine - we gradually got what I would call better insights. And we realized that some company that was selling at two or three times book value could still be hell or a bargain because of the momentums implicit in its position, sometimes combined with an unusual management skill plainly present in some individual or other, or some system or other.”

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So, there’s the first pillar of the Munger Doctrine: Don’t obsess over Valuation Ratios.

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So, Low P/E + High ROE doesn't cut it??

So, what should we obsess over?

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When I first started digging into Charlie Munger, around 10 years ago, I started by peering through a very pictorial and entertaining coffee-table book called Poor Charlie’s Almanack. I thought I’d get schooled in Finance and Valuation. Some of it was about all that – like the quote above. But most of it was about the underlying attributes that, in his experience, made him a gifted investor.

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The finance-y valuation tidbits were cool, but it’s the other stuff that forged new neural pathways in my brain. Here are 4 main ones:

1. He was a Polymath. And that did wonders for his career in investing.
2. He was a lifelong student of Psychology.
3. He was obsessed with Probability.
4. He was extremely Picky.

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I suppose I can call it the 4 Ps of The Munger Doctrine: Polymath-iness (?). Psychology. Probability. Pickiness.

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If you’re an equity investor and you internalize all 4 Ps, you’ll be ahead of 99% of investors out there. I’ll leave you with some quotes from the legend himself on each P of The Munger Doctrine, so it sticks.

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On being a Polymath:?

“What is elementary worldly wisdom? Well, the first rule is that you can't really know anything if you just remember isolated facts and try to bang 'em back. If the facts don't hang together on a latticework of theory, you don't have them in a usable form. You've got to have models in your head. And you've got to array your experience - both vicarious and direct - on this latticework of models.”

Because…

“You must know the big ideas in the big disciplines and use them routinely – all of them, not just a few. Most people are trained in one model – economics, for example – and try to solve all problems in one way. You know the old saying: To the man with a hammer, the world looks like a nail. This is a dumb way of handling problems.”

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On the role of Psychology in investing:

“[Richard] Thaler pokes fun at much that is holy at the University of Chicago. Indeed, Thaler believes, with me, that people are often massively irrational in ways predicted by psychology that must be taken into account in microeconomics.”

And so,…

“One of the key elements to successful investing is having the right temperament – most people are too fretful; they worry too much. Success means being very patient, but aggressive when it’s time.”

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On the importance of Probability in investing (and life):

“If you don’t get this elementary, but mildly unnatural, mathematics of elementary probability into your repertoire, then you go through a long life like a one-legged man in an ass-kicking contest.”

?Because…

“To us investing is the equivalent of going out and betting against the pari-mutuel system. We look for a horse with one chance in two of winning and which pays you three to one. You’re looking for a mispriced gamble. That’s what investing is. And you have to know enough to know whether the gamble is mispriced. That’s value investing.”

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On Pickiness:

“It's not given to human beings to have such talent that they can just know everything about everything all the time. But it is given to human beings who work hard at it - who look and sift the world for a mispriced bet - that they can occasionally find one. And the wise ones bet heavily when the world offers them that opportunity. They bet big when they have the odds. And the rest of the time they don't. It's just that simple.”

But nobody said it’s easy…

“It takes character to sit there with all that cash and do nothing. I didn’t get to where I am by going after mediocre opportunities.”

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We’ll miss you, Charlie. RIP.

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Have a great weekend!

Saurav