Here's the second half of last week's post:
Now, let's get back to one of my favorite topics: disregard for convention. A wise man once told me that most investors follow a set of rules that typically make them middle-of-road, B-level investors, but in breaking their rules they can become either A-level investors (rarely), or (more frequently) C-minus investors. And indeed, I've always been a bit insouciantly petulant about rules, but as far as guidelines go, but I've got to give James Montier from GMO a tip of the cap for The Seven Immutable Rules of Investing:
1. Always insist on a margin of safety
2. This time is never different
3. Be patient and wait for the fat pitch
4. Be contrarian
5. Risk is the permanent loss of capital, never a number
6. Be leery of leverage
7. Never invest in something you don't understand
And, generally, those are pretty darn good rules. The value investor in me swoons. But the Californian in me wonders if these rules are little more than a wind-break against the perennial gales of creative destruction? In this zip code, after all, those rules are more honored in the breach than in the observance. And surely, if investors had followed those rules exclusively all along, we'd still be communicating via horse-mounted couriers as we farmed the Appalachian Watershed with oxen, oppressed by the inexorable tyranny of the seasons and the immutable fright of nightfall. Instead, we live, work, and play in ways that are scarcely recognizable to our parents and would've been unimaginable to our forebears. Much of that progress was financed by the investors who broke their rules; some made mints while most didn't.
Now, I don't mean to critique value-oriented investing, as assets need an anchor around which to contextualize their valuation. But if the last century, with its optimists triumphant, suggested anything to us, maybe it's that the value of businesses isn't really the discounted value of their dividends? Perhaps businesses are better thought of as portfolios of options, some of which are very long-dated and way out-of-the-money. And maybe the central wonder of the American economy, with California as its exemplar, is that it offers the best framework for capturing the random forward lurch of progress? After all, the US economy, more so than that of any other nation, seems geared around exercising profitable options while letting unprofitable ones expire, often (and hopefully) cheaply. This asymmetry is getting even more acute as value chains continue to fragment and the cost of hatching and nurturing an idea continues to drop. The resulting left- and right-tail opportunities may be hard to differentiate from each other, but those who are unafraid of being wrong and alone will give themselves the electric opportunity of being right and alone.
I love working on a street thick with start-ups and it's been fun to watch these companies strive and stumble and pivot and grow. I love visiting them when engineers are piled up on top of each other in a too-cramped space; its a visceral and sensory experience when a startup finds its cadence. The old east coast value investor in me wonders aloud, "who would invest in this stuff? It's bananas! These guys are violating at least four of The Seven Rules!"
But the west coast Chris hears an echo of Steinbeck's description of Cannery Row: "[Silicon Valley] in California is a poem, a stink, a grating noise, a quality of light, a tone, a habit, a nostalgia, a dream."