An Investors Last Remaining Edge?

Patience is a virtue, at least in investing...

People say they want to make money in the stock market. But in reality, it’s far more complicated. Humans crave action. Whether it’s running from a big cat in the African Sahara or buying that hot new stock your gym buddy can’t stop mentioning. In our brains: action = good, inaction = bad.

So much so that we’d instead harm ourselves than sit alone with our thoughts. Read that sentence again.

It’s easy to see how we (the investor) harm ourselves to compound investment capital over the long term.

Yet, there are countless examples of great investors choosing to do nothing. Their ability to do nothing hangs on three principles:

  1. Set The Highest Bar For New Ideas

  2. Preoccupy Yourself with Other Work

  3. Bet Only On The Highest Asymmetric Ideas

Look around.

The entire investment world thrives on activity and commotion. Zero-commission trading turns investing into a sport. Ill-chosen LPs want decisions to justify management fees.

The best investors are the ones that have an unnatural ability to choose inactivity. As crazy as it sounds, boredom is an investor’s last remaining competitive advantage.

People Choose Physical Pain Over Boredom

Humans are fascinating creatures. We can think deeply about concepts beyond our own experiences. We can paint alternate pictures of reality and the future, engage in probabilistic scenario analysis and recall memories with ease. The scientific word for this phenomenon is “default mode processing.”

But in 2014, social psychologist Timothy Wilson posed two questions: 

  1. Do people choose to put themselves in default mode by disengaging from the external world?

  2. When they are in this mode, is it a pleasing experience?

To answer these questions, Wilson conducted a series of 10 experiments. Participants ranged from college students to the elderly (77+). In the first study, the participants did a 6-15 minute “thinking session.” No phones, no external stimulus. Alone with their thoughts.

The first study revealed that 58% of participants found it difficult to concentrate. 89% said their mind wandered during the 6-15 minute session. And ~50% of participants said they didn’t enjoy the experience.

Let’s focus on the tenth (and last) study. In the tenth study, Wilson introduced an optional negative stimulation. In other words, participants had two choices:

  1. Sit alone with their thoughts.

  2. Hurt themselves via electric shock

Here’s the exciting part. Wilson gave each participant $5 and asked them to gauge how much they would pay to receive the electric stimulus after experimenting.

The results were incredible (emphasis mine):

“Many participants elected to receive negative stimulation over no stimulation—especially men: 67% of men (12 of 18) gave themselves at least one shock during the thinking period [range = 0 to 4 shocks, mean (M) = 1.47, SD = 1.46, not including one outlier who administered 190 shocks to himself], compared to 25% of women (6 of 24; range = 0 to 9 shocks, M = 1.00, SD = 2.32). Note that these results only include participants who had reported that they would pay to avoid being shocked again.

Read that last sentence again. The results were from those that would pay to avoid being shocked. Imagine the percentage if the study included those that would pay to get shocked.

Wilson couldn’t hide his amazement at his findings (emphasis mine):

“But what is striking is that simply being alone with their thoughts for 15 min was so aversive that it drove many participants to self-administer an electric shock that they had earlier said they would pay to avoid.”

The majority would rather hurt themselves than sit in solitude with their thoughts.

But why?

Wilson first hypothesized that time alone with one’s thoughts led to periods of negative self-reflection. Yet, previous studies rebuked that claim. Another thesis is that people hate being both the “script-writer” and “experiencer” of thoughts. In other words, without external stimuli, humans do two things:

  • “Write” an alternative reality in their minds.

  • Experience that written alternative reality in their minds

Even when controlling for these written experiences, the researchers found no improvement in enjoyment.

It’s no wonder people spend hours meditating to control their minds and have peace within boredom. Failure to do so could lead to physical harm.

Wilson ends the paper with an exasperated conclusion (emphasis mine):

“Without such training, people prefer doing to thinking, even if what they are doing is so unpleasant that they would normally pay to avoid it. The untutored mind does not like to be alone with itself.”

How We Hurt Ourselves In Markets

The stock market is a consortium of human psychology played out five days a week from 9:30 AM to 4:00 PM. Millions of individuals make decisions each day. Constant decisions mean the market ebbs and flow with people choosing activity over inactivity even if that activity hurts.

Remember, we know people would instead choose pain over solitude with their thoughts. What does this look like in financial markets?

Let’s review Ed Seykota’s quote from the beginning of the essay (emphasis mine):

“Win or lose, everybody gets what they want out of the market. Some people seem to like to lose, so they win by losing money.

Before learning about Wilson’s experiment, Seykota’s quote makes little sense. But think about it. Replace “market” with Wilson’s “thinking sessions” and replace “lose” with “hurt.”

It makes perfect sense. After all, we’re not supposed to find great ideas every day or month. Heck, uncovering a great idea once a quarter is a challenge! So that middle part -- the gap between your last great idea and a new one -- is where danger lives.

Jesse Livermore, one of the greatest investors to ever live, opined a similar philosophy (emphasis mine):

“It never was my thinking that made the big money for me. It always was my sitting. Got that? My sitting tight!
 It is no trick at all to be right on the market. You always find lots of early bulls in bull markets and early bears in bear markets. I’ve known many men who were right at exactly the right time and began buying or selling stocks when prices were at the very level which should show the greatest profit. And their experience invariably matched mine–that is, they made no real money out of it. Men who can both be right and sit tight are uncommon.”

In markets, we hurt ourselves by acting when we should sit tight. Again, great ideas don’t appear often. When they do, we should buy as much as we can and sit on it. Then, do nothing.

Doing nothing is akin to Wilson’s students sitting in a room and not shocking themselves with painful stimuli. The majority of us just can’t do it!

Here are some ways we self-inflict painful shocks in our portfolio:

  • Selling a stock after a drawdown on no fundamental news

  • Focusing only on valuation metrics

  • Averaging down on losers

  • Poor position sizing 

  • Overemphasis on quarterly results

  • “Resulting” past performance/decisions

  • Assume infallibility

Like most people alone with their thoughts, most investors hurt themselves on a routine basis. Yet the best investors don’t. They’re the same people that can sit alone in a room with their thoughts -- and somehow not harm themselves.

How do they do it? What are their secrets? Let’s find out.

The Best Investors Make The Fewest Decisions

A handful of investors can sit in a room and not hurt themselves. We know their names—Buffett, Munger, Pabrai, Nick Sleep, etc. You’ve read their annual letters and books. You’ve watched their YouTube videos. These are our “unnatural” investors.

Here are a few famous quotes from these unnaturals:

The stock market is a device for transferring money from the impatient to the patient.” - Warren Buffett

I think the record shows the advantage of a peculiar mindset - not seeking action for its own sake, but instead combining extreme patience with extreme decisiveness.” - Charlie Munger

The single most important skill for being a good investor is to be very content with not doing anything for extended periods, and that’s perfectly fine.” - Mohnish Pabrai

"Any superiority an investment process may have will only emerge with time, so patience is important." - Nicholas Sleep

How can these investors sit, do nothing, and not hurt themselves? Said another way -- how can they do the unnatural?

There are three things the best investors do to avoid the pain of boredom.

Rule 1: Set the Highest Bar Possible For New Ideas

First, they set the highest bar possible for their portfolio. A high bar makes it almost impossible to add another stock to the book because the ones they have are better. When faced with a decision to buy a new company or buy what they own -- they buy more of what they own.

Here’s a great heuristic to gauge where you’ve set your portfolio hurdle. The higher your frequency of “great” ideas, the lower your portfolio hurdle. Even if you have a global mandate and can fish anywhere, always raise the hurdle rate to reduce the amount of “great” ideas you find. They should be few and far between.

Rule 2: Preoccupy Yourself With Other Work

Second, unnaturals preoccupy themselves with other work like reading and learning about companies. This second step only works if you do the first one. A low bar for portfolio entry reduces your ability to deeply study new businesses and ideas because you’re mesmerized by the latest shiny object.

A high hurdle allows you to read hundreds of annual reports, investor presentations, and earnings transcripts without feeling like you need to add the idea to your portfolio. Moreover, the deeper you understand a business, the more you realize you don’t need to buy the stock right then-and-there, which brings us to our third characteristic of “unnatural” investors.

Rule 3: Bet Only On The Highest Asymmetric Opportunities Available

My biggest struggle is the feeling I’ll miss out on a stock’s returns if I don’t buy “today.” The best investors don’t share this struggle. The “unnaturals'' know that it doesn’t matter if an idea is genuinely great if they purchase today or tomorrow. Heck, they swing such big asset pools it can take weeks to build a full position.

Such quiet confidence is a function of the asymmetry of the investment idea. Let’s use a simple example. Say we’re studying two companies: ABC and XYZ. Both trade at $10/share (no, they’re not SPACs). Over time, we conclude that ABC is worth ~$15/share and XYZ $25/share.

Which stock is the better value? It isn’t a trick question: XYZ.

Yet it pains me to think about the hours I’ve spent obsessing over the ABC stocks in favor of the XYZ companies. All for the sake of activity.

“Unnatural” investors only look for the highest asymmetric payoffs possible. Ideas that can return $5 or $10 for every $1 risked. By doing this, they eliminate the need to buy within dollars and cents of a specified entry price.

The “Unnaturals” Three-Legged Stool

I’m stealing from Chuck Akre here, but think of each rule as a leg in a three-legged stool. You need all three to create a working seat.

You can’t only invest in the highest asymmetric opportunities if you have a low hurdle bar in your portfolio. And you can’t preoccupy yourself with reading, learning, and profoundly studying businesses if you’re betting on seventy-cent dollars.

Now I know why Akre called it a “stool.” You’re supposed to sit and, well, do nothing!

The Struggle (of Overactivity) is Real

Here’s how my current investment process looks:

“Ehh,” “ahh,” “maybe,” “kinda,” “no,” “no,” “I can see it”, …

Here’s how I want it to look:

“No,” “no,” “no,” “no,” “no,” “no,” “no,” “HELL YES,” “no,” “no,” “no” …

Better outcomes occur when you say “no” more and wait for the “HELL YES” ideas.

Saying “no” takes practice. It takes patience. It takes an unnatural ability to sit in a room alone for fifteen minutes and not hurt yourself.

The best investors aren’t the best because they have a differentiated method of finding new (and better) ideas. They’re the best because they can do what so many of us can’t: sit with their thoughts and be okay.

As Charlie Munger says, “It is remarkable how much long-term advantage people like us have gotten by trying to be consistently not stupid, instead of trying to be very intelligent.”

The best investors show up to the market, sit down, and don’t shock themselves. They like the boredom because they know it's the boredom that precedes the next best idea. Do yourself a favor, stay bored.