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The Warren Buffett Portfolio
by Robert G. Hagstorm
September 12, 2007
After reading a few books on Warren Buffett and investment strategies of focus or value investments, this book was mostly redundant to me. However, this book does a good job covering all the subjects involved with focus investing. The authors mentioned his intent, while his first book, The Warren Buffett Way provided the strategies that used to master the stock picks, this book guild you through the process, mainly the focus investment strategy. He mentioned a lot about traditional ways of investing, then introduce you to the focus investment technical that was used by Warren Buffett. There are a lot of statistics and the performances results used to prove his case. (To readers new in this arena, this a good pair of books, but I prefer the alternative route of reading, which begins with Intelligent Investors, Essays of Warren Buffett, then Charlie Munger’s Almanac, Security Analysis, if you want to take further look into financial statements.)
The only new content, which I consider as the juice of the book, is found towards the end with idea of investing as a complex adaptive system. This notion offers a somewhat new perception, a bit like Charile Munger’s idea of network of lattice. In this complex adaptive system, which was studied by a collection of foremost prestige scientists whose came from various fields to Sanfe Fe institute, denied the classical theory that viewing markets and economic as equilibrium systems, but identified three important characteristics of economy. 1. “an economy is a network system of many “agents” all acting in parallel.” 2. “control of the economy is highly dispersed.” 3. “agents in a complex system accumulate experience and adapt to a changing environment.” So, viewing the market as a complex adaptive system, the linear model or analysis, such as using earnings, return on equity, gross margin, etc., simply cannot work sufficiently. It’s like using a 2D model solving 3D problem, you will never get the complete picture or simulation. And as noted as the most important of the three characteristic, the market is ever-changing, the agents or investors are adapting to changes. If they lost their entire bankroll during the 2000 Tech Crash, you can be sure, their behavior will change for the next big bubble, well, maybe, some book also argues, people never learn. But I believe, the market as a system, do change but just a slow rate. Hmmm? How do we take advantage of this trait?
Rest of goodies:
Practice Basic Math/Probabilities and develop Math/Probabilities Intuition!!! Math Apathy is what preventing average Poker Player/Investor from become Great Poker Player/Investors.
High Turn-Over ratio is result of over-confidence that simulated in purchase of stock.
Warren Buffett: “He thinks about the company, the management, the financials, and the asking price – in that order.”
“Any portfolio that outperforms over any length of time does so because it contains mispriced securities.”
Professor Michael Mauboussin now teachs the three hour lecture course, Security Analysis, at Columbia University Graduate School of Business, which encompass three broad concepts: 1. Interdisciplinary approach. 2. Psychology in investing. 3. Margin of Safety.”
Read Feynman’s autobiography. Buffett referred to this, when asked why he was good with numbers.
“Bayesian Analysis is an attempt to incorporate all available information into a process for making inferences, or decisions, about the underlying state of nature.”
“A pure arbitrage is nothing more than profiting from the discrepancy in the price of a security quoted in two different markets.”
Buffett “a well managed bank could not only grow its earnings but also earn a handsome return on equity.”
Kelly Optimization Model or optimal growth strategy, 2p-1=x. where 2 times the probability of winning minus 1 equals the percentage of one’s bankroll that should be bet. Calculated for optimal return with given risk. Which has 3 limitations: 1. Should have a long-term horizon, 2. be wary of using leverage, 3. risk of overbetting.
Munger: “we jump too easily to conclusions. We are easily misled and are prone to manipulation.”
Richard Thaler: “Investor, as a rule, appear highly confident.”
“They typically rely on information that confirms what they believe, and they disregard contrary information. In addition, their minds work to assess whatever information is readily available rather than to seek out information that is little known.”
Overreaction bias: “that people tend to overreact to bad news and react slowly to good news.” Thaler: describes this overemphasis on the short term as investor “myopia.”
“the pain of loss is far greater than the enjoyment of a gain. … people need twice as much positive to overcome a negative.”