Ever find yourself over analyzing a trivial purchase? We all do this, spend hours reading Amazon reviews and looking at dozens of different models of some item where the difference between models is irrelevant. What I find fascinating is I will research some product to death before spending $100 to purchase it, then I'll turn around and read a few annual reports and invested thousands into a company. There are companies in my portfolio where I spent more time researching baby video monitors than I did researching them. Why is that?
I read a blog post about six months ago where the author praised procrastination. They stated that anytime someone procrastinates there is an underlying reason that they don't want to proceed. Maybe the task is boring, or they don't have all the information, but there's always a reason. I'm not sure if this is true or not, but it was something to think about. I've continued to think about it within the context of investing.
Many times I have researched a company, had them check out on paper, and then fail to initiate an investment. If a computer were to follow my criteria and look at these investments the computer would have purchased. For some inexplicable reason I never proceeded with the purchase because something didn't "feel right." Often I'd invent a flimsy excuse as to why I passed "a net-net selling Paris Hilton perfume won't do well" (Parlux), of course it's not going to do well, it's selling below liquidation value. But these excuses helped satisfy me as I walked away from perfectly good investments.
I've recently been thinking about this phenomenon within the context of procrastination. Of the last few companies I've looked at and purchased two I hesitated on. As I hesitated I spent a day or two asking myself what exactly was it that was giving me hesitation? If it was some actual item I could research it further. In the first case I was concerned by the strange listing situation the company had, but after further reading on the company's history I was satisfied.
I've also had many times where I hesitate on some item, research further and then avoid the investment. Some of these avoided investments end up going to the moon with me sulking in the distance. The truth is whether or not an investment works out isn't how we should measure if our decision was correct. Benjamin Graham states that investors are right when their facts and reasoning are right, not their results.
Something I've observed amongst value investors is they use a feeling of hesitation to over-research a company. You might be asking, how is it possible to over-research something? I feel that something is being over-researched when the data and details overwhelm the actual investing thesis. Case in point someone sent me a link to a writeup on a net-net a month ago. The writeup was probably 10-12 pages long, it detailed all sorts of industry trends, and contained historical results from seemingly the beginning of time. Towards the end there was a brief mention that the company was selling for less than NCAV. Instead of spending hours inputting data into Excel they should have started off asking: is this company truly worth NCAV or more, or is it fairly valued? When a company is selling for less than book value the first two things I want to know are why, and is it even worth book value? If an elaborate justification is required to show that book value is obtainable I'm most likely not interested. Somewhere beyond two or three assumptions any prediction becomes worthless.
Before my next paragraph I want to point out the caveat that some investors have a complexity edge. They can research bankruptcy filings or rat nests of obfuscated transactions and discover a nugget of gold lying on the ground. I don't have the time or the brain power to handle those things. So to the types of people who enjoy Trivial Pursuit and can answer who won the mens doubles championship in the 1936, complex situations are probably for you, while this post is for the rest of us.
The tendency to over-research is strong, for many investors over-research is more a form of professional job insurance rather than a desire to understand the underlying details of a company. Over-research can also lead to confirmation bias, or the bigger problem in my view, analysis paralysis. People get into binds where they feel that if they can't fully understand a company they can't invest. Here's a wake up call, no investor can fully understand a company they're invested, if they believe they can they're lying. Not even the CEO knows everything happening at their company unless it's a one man operation. Desiring to know every nitty gritty detail about an investment is a faulty attempt to control something uncontrollable. Investors believe that if they know all the details then they'll make better decisions or their investment ideas won't fail. No matter how much you know about a company your knowledge can never prevent failure, especially if humans are involved. Never underestimate the amount of destruction a negligent or careless employee can wreak on a company.
I know this post is rambling, I will cut to the essence of my message:
1. Strive for simplicity, look for investments that are easy to understand and easy to explain. The reason for investing should not require much justification.
2. Know when enough is enough, at some point research hits diminishing returns. I am guilty of this, I've burned many nights Googling mid-level managers at potential investments, or reading feel good news stories about company charity donations. These things have never helped me, except to convince some part of myself that I made a good decision.
3. Identify the cause of your hesitation. Are you hesitating because there is a missing piece of vital information? If so go find it.
Investors talk about a circle of competence, I say strive for a circle of simplicity. Look for simple investments with minimal assumptions. Look for similar patterns of simplicity that worked well in the past. Everyone claims to know that simply buying low P/E or P/B or P/FCF or EV/EBITDA stocks beat the market, so why are we complicating things so much?
Talk to Nate