James Montier Background (via GMO):
Mr. Montier is a member of GMO’s asset allocation team. Prior to joining GMO in 2009, he was co-head of Global Strategy at Société Générale. Mr. Montier is the author of several books including Behavioural Investing: A Practitioner’s Guide to Applying Behavioural Finance; Value Investing: Tools and Techniques for Intelligent Investment; and The Little Book of Behavioural Investing. Mr. Montier is a visiting fellow at the University of Durham and a fellow of the Royal Society of Arts. He holds a B.A. in Economics from Portsmouth University and an M.Sc. in Economics from Warwick University.
Miguel: James, thank you for joining us for the second part of our interview (part 1). This time we are here to talk about your other release – The Little Book of Behavioral Investing – How Not to Be Your Own Worst Enemy. Unlike other books which border on complexity and focus on academic speak, this little book provides an introduction to behavioural finance, decision making, and psychology.
James Montier: Thanks for having me back Miguel. The little book is aimed at everyone. It was the toughest thing I’ve had to write. Trying to expunge the jargon and get down to the nitty gritty of how to defend ourselves against our own bad habits was a real challenge.
Miguel: So let me ask you. Why are we our worst enemy?
James Montier: We are own our worst enemy because we are human. Evolution equipped us to deal well with savannah of 150,000 years ago, but that doesn’t necessarily equate to leaving us well prepared for the world we find ourselves living in now. Traits such as over-optimism may have served us well historically (after all the pessimists probably stayed at home in the cave, and didn’t go out and try and catch woolly mammoths, and thus died out relatively quickly). However, over-optimism in investing can be an unmitigated disaster.
Miguel: Can we really develop self control? Why is it like a muscle?
James Montier: Self control is a tricky thing. It’s like a muscle because it suffers depletion. That’s to say it gets tired, and becomes harder and harder to use. But I think we can outsource self control in some regards. For instance, Sir John Templeton used to do his valuation work on a quiet day in the markets. He’d come up with estimates of intrinsic value, and then calculate his required margin of safety. He’d then place an open order with his broker to buy when the stock was down at his level (say 40% below market price). Sir John was effectively outsourcing his self control, because he knew that on the day that stock was down 40% he wouldn’t have the courage to buy it.
Miguel: I was hoping I could outsource my self control to India. You’ve convinced me, I guess I’ll have to keep it in house.
Give us some insights – how can we become critical thinkers.
James Montier: Critical thinking is really all about being a contrarian in thought. Learning to be skeptical, to question what you hear, and evaluate it based on merit, rather than emotional appeal. In essence taking a contrarian view point requires us to learn three skills.
The first is highlighted by the legendary hedge fund manager Michael Steinhardt, who urged investors to have the courage to be different. He said, “The hardest thing over the years has been having the courage to go against the dominant wisdom of the time, to have a view that is at variance with the present consensus and bet that view.”
The second element is to be a critical thinker. As Joel Greenblatt has opined, “You can’t be a good value investor without being an independent thinker—you’re seeing valuations that the market is not appreciating. But it’s critical that you understand why the market isn’t seeing the value.”
Finally, you must have the perseverance and grit to stick to your principles. As Ben Graham noted, “If you believe that the value approach is inherently sound then devote yourself to that principle. Stick to it, and don’t be led astray by Wall Street’s fashions, illusions and its constant chase after the fast dollar. Let me emphasize that it does not take genius to be a successful value analyst, what it needs is, first, reasonably good intelligence; second, sound principles of operation; and third, and most important, firmness of character.”
Only by mastering all three of these elements can you hope to be at ease as a contrarian.
Critical thinking also involves pushing yourself to think in ways that don’t come naturally. For instance, you have to learn to look for the information that shows you are wrong. You have to learn to try and kill the idea, rather than nurture it. This goes against the grain. With practice, all of these elements of critical thinking become a little bit easier – but never let your guard down, because that’s when the bad old habits start to creep in again.
Miguel: I know you are not a fan of Jim Cramer (I’m not either); why can’t people resist watching his show?
James Montier: Pure entertainment value sadly. Personally I think if that is the most excitement you have in your life, then you are in trouble. But Cramer and his ilk are charismatic and throughout time, we’ve shown a predisposition to story tellers.
Paul Samuelson put it best when he opined “Investing should be dull, like watching paint dry or grass grow”. But today everyone wants excitement all the time. We have become excitement junkies, and Cramer et al feed that addiction. The constant pressure of a ADHD driven world is one of the biggest hurdles that investors have to overcome, yet it offers them the biggest advantage, a longer time horizon (as we discussed in part 1 of this interview).
Miguel: You quote Daniel J. Boorstin, “The greatest obstacle to discovery is not ignorance – it is the illusion of knowledge”.
James Montier: The illusion of knowledge is ever present in investing. Analysts are specialists in their various fields, and can tell you everything about everything, but like all specialists they are in great danger of ending up knowing everything about nothing.
We repeatedly fool ourselves into thinking that we know more than everybody else. This leads us to play Keynes’ beauty contest, where we try and be just one step ahead of everyone else.
To admit ignorance is actually liberating in the extreme. It frees you from all the needless fretting over all the things you can’t control. Once you said you don’t know, you can think about how you deal with this ignorance. Personally I’m a big fan of hedging my ignorance. If there is something I don’t know, I can find a hedge or two that protects me. Inflation is a great example right now. The debate between deflationists and inflationists rages on. My sympathies lie with the inflationists but I certainly can’t be sure. So I’m trying find sources of cheap insurance against both outcomes.
Miguel: James, what is “Bubble Vision”?
James Montier: Bubble vision is a term coined by a friend of mine to describe the Cramer-like phenomena. That is to say, the endless channels trying to provide some in depth insight to the random fluctuations of the market. It sucks you into an extremely myopic view of the world, and jeopardizes your ability to remain patient.
Miguel: Behaviorally speaking, why do people become perma bears?
James Montier: The perma-bear and its cousin the perma bull are both dangerous beasts. They are wedded to their view, and because they have spent time and effort in coming up with that view they are reluctant to let it go. Sadly, time and effort are a sunk cost – once they have gone, they have gone forever, you can’t get them back, so they should weigh on your mind when it comes to changing a view, but all too often they do.
When I turned bullish in late 2008 and early 2009, I got hate mail from perma bears who thought I was one of their own. It is certainly true that I’d been negative for a long time, but valuations had been expensive for a long time. When asked what would make me more bullish, my perennial response was lower prices, so it would have been churlish not to become more bullish when the opportunity arose.
In general, we would be well served to remember John Maynard Keynes’ standpoint “When the facts change, I change my mind, what do you do Sir?”
Miguel: What do you think is the key takeaway from your “Little Book”?
James Montier: That’s a tough one. What I’ve tried to do in the Little Book is set out some of the most common mental mistakes that investors encounter, and then suggest ways in which we might be able to guard against our falling into these pitfalls. I’ve tried to use some of the world’s greatest investors as examples, because they have worked out that they too suffer from biases, and that they need to codify a process-driven response to prevent them stumbling into the same mistake again.
I hope that when people read the Little Book they will recognize themselves. The takeaways will be different depending upon the reader. If you are particularly prone to over-optimism you will come away with a different prescription than someone who is driven by their emotions.
Miguel: How do you stay wise? what kinds of books, periodicals, etc do you read? What investors do you follow?
James Montier: I read a wide range of material, much of it seemingly tangential to investing. My first passion is human behaviour, so I’ll read almost anything on that subject, and I often find that it has applications to investing. I read a lot of working papers and journals in the field of psychology, especially decision making under uncertainty.
There are some truly great investors who are doubly gifted because they are great writers as well. Seth Klarman, Howard Marks, Frank Martin, and Jeremy Grantham (and I’d have included him on that list long before I joined GMO) all stand out as hitting this rare double bogey. I also read a lot of historical books, every investor should read Chapter 12 of Keynes’ general theory, and Graham and Dodd’s Security Analysis, both are packed with insight. As I mentioned earlier there is very little new in investing, so today’s investors can learn an awful lot from the old masters.
Miguel: James, thanks again for joining us. I appreciate you taking the time to answer our questions.
James Montier: My pleasure Miguel. Thanks for having me.
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