Mind at the crossroads

What should one do when the facts change and the original thought process doesn't hold any longer. As an investment professional, situations that warrant a change of mind come with a little higher frequency. New facts emerge and decisions have to be constantly revisited in light of those. In this post, I have listed down a few quotes that I remember and questions that I ask which help me decide. It's possible that you too may find them useful in your decisions, investments or otherwise.

When the facts change, I change my mind. What do you do, Sir ?

This quote from Keynes has been my guiding light when I have to make decisions in the light of new facts.

The other person's viewpoint seems more rational and logical than mine. How should I handle my ego which prevents me from accepting it?

Focus on what is right, not who is right. If my existing point of view is inferior to an alternate view point, I should immediately latch on to the better one. Knowledge like sunshine should be welcomed from all directions. It doesn't matter who the person on the other side is. Focus only on what is right.

How long will this change be required ?

Till my last breath. Munger of his own admitting made the worst investment mistake by investing in Alibaba during the last few years of his life. But when he realised he was wrong, he quickly sold his investment and didn't fall for commitment. Even in his last years, he taught an important lesson through his actions. If you realise you are wrong, change the course. Period.

What is my North Star while investing ?

I consider the investment thesis (moat around the business, its sustainability, the track record in terms of return on capital, risks and the quality of management) as the North Star. In a plethora of decision making points, I look upto my North Star. If the investment thesis continues to be as I thought earlier, no change is required even if the market doesn't agree with me for years together. I tell myself that I should be patient, stay put and not disturb the position. 

What should an ideal mind be like ?

An ideal mind should be like a spider's web. As soft as silk but stronger than steel. When conditions warrant, the mind should change itself effortlessly. However, when nothing has changed, it should be as hard as steel. Unmoved and firm. Like Angad's leg.

Should you change your mind about an investment idea, what about loss of face in front of the clients?

It's better to look foolish than to stay foolish.

DESTROYED

“Any year that you don’t destroy one of your best loved ideas is probably a wasted year” – Munger

Many years back, I destroyed something in my mind. It was neither good nor an idea. It was a prejudice – a wrong notion. The notion to discriminate members of the LGBT+ community. How I picked it up, I don’t know. Most likely from the society around me. The general behaviour of people is to discriminate and mock members of the LGBT+ community. Reason- they are different from us and don’t fit into the established norms of the society. I started behaving like others around me. Monkey see, monkey do. I regret that behaviour of mine. 

Over a period of time, the debates and discussions on TV and newspapers sensitised and educated me. I questioned my beliefs and I could see no good reasons to continue holding such beliefs.

Companionship is the most important physiological needs of a human being. Having a companion is a primal urge. According to a Biblical story, Eve was created by God by taking her from the rib of Adam, to be Adam's companion. Companionship is all about meeting of the minds, vibes, chemistry and frequency. Sexual orientation has nothing to do with it. 

The case for legal acceptance of same sex marriage in India is with the Supreme Court now. The court has finished hearing arguments and the verdict is awaited. Marriage equality would be a giant leap in making our country more equal. Every citizen in India enjoys freedom under the constitution. Choosing one’s marriage partner should be one such freedom.

As I finish writing the post and wait for the court’s verdict, I wish all my brethren of the LGBT+ the best and recite the following lines from the poem ‘Gitanjali’ by Gurudeva Rabindra Nath Tagore.

“Where the mind is without fear and the head is held high;
Where knowledge is free;
Where the world has not been broken up into fragments by narrow domestic walls;
Where words come out from the depth of truth;
Where tireless striving stretches its arms toward perfection;
Where the clear stream of reason has not lost its way into the dreary desert sand of dead habit;
Where the mind is led forward by thee into ever-widening thought and action -
Into that heaven of freedom, my Father, let my country awake"

To Short or Not?

I don’t have any holding long or short in the Adani group shares. This note is to talk about shorting in general, my own experience of short selling and finally Buffett’s wisdom on shorting.

Adani Group stocks have been roiled in the last couple of days post the publication of the Hindenburg Report. Hindenburg is a US based short seller specializing in finding companies which it suspects to be fraudulent or having financial irregularities. The research house goes short on these companies, publishes it reports and makes money if the stocks go down.

What is Short Selling?

Normally, when we buy shares of any company, we expect the prices to go up over a period and thus make money. This is known as long investing. Short sellers on the other hand sell shares of the company they don’t have [either by borrowing shares from other owners or selling in the futures market] and buy them back when the price goes down thus making money in the process.

Simply put long investors FIRST buy low and THEN sell high. Short sellers FIRST sell high and THEN buy low.

Perils of short selling

The first danger of short selling is the potential for unlimited losses. In the case of long investing – say you buy a stock at Rs 100. The worst-case scenario is that the stock can go down to zero. So, your maximum loss is pegged at 100. You can’t lose more than what you had invested.

In short selling, the potential for losses is unlimited. Say you short sell a stock at Rs 100. Theoretically, the stock can go up to any price and so can your losses. 

The second danger in short selling is absence of staying power. In long investing, one can invest and stay patiently in the position for a long period of time. In short selling, if the position moves against you, you will have to keep pumping more money to cover your losses. The requirement of more money to stay in the game might severely constrain your position and you may have to bow out early [and wounded] even if you are eventually proven right.

Markets can stay irrational longer that you can stay solvent ~ John Maynard Keynes

The third and most lethal danger of short selling is the possibility of a short squeeze. As I wrote earlier, in short selling the intention is to sell high and buy later at a lower price. Imagine you sold some stock at a high price and instead of price going lower, it goes higher and you have losses. You decide to take your losses, lick your wounds, and close out the position. For closing out the position you need to buy back the same quantity of shares which you had sold earlier. When you wish to buy the shares even at a higher price, to your surprise you find that there are no sellers in the market. The stock is locked in upper circuits day after day. The whole thing defies gravity and turns into a vicious loop.

There have been many examples of short squeezes in the capital markets. The one which is etched in my memory is that of Volkswagen. The German billionaire Adolf Merckle, the owner of Porsche tried to take over Volkswagen (VW). Amongst many steps that he took, one was shorting the shares of VW in the market but the tide turned against him and shares of VW kept marching up. With no shares of VW available in the market to cover up, the losses in the position mounted uncontrollably. The monetary and reputational loss was so high that Mr Merckle took his own life.

It's insane to risk something that you have and do need for something that you don’t have and don’t need- Warren Buffett

My experience of short selling

Soon after I started investing in the year 2004, being largely ignorant about the ways of the market, I took short positions in 2 companies because I found the valuations expensive. However, the prices went up considerably and I received a margin call from my broker. I had to liquidate my savings in the bank to fund the margin and eventually to close out the positions. The time I spent in that position was extremely unpleasant with sleepless nights. Having learnt my lesson that the odds are stacked against the investor in short selling, I decided not to do it again. I behaved like Mark Twain’s cat and haven’t touched the stove since.

All I want to know is where I’m going to die so I’ll never go there- Anonymous Hermit

Buffett on short selling

I have kept the best part for the end. I am sure you will relish and learn what Buffett has to say on short selling stocks. Credit for the following excerpts: Outstanding Investor Digest [OID]