During the past month, I had the honor and pleasure to attend Himalaya Capital's Chang Jing's lectures at Peking University's Fall 2020 Value Investing Course. I've covered what I learned from the lectures in my recent articles.
Towards the end of the lectures, Chang brought up what he calls the "five rights for value investors." Although he didn't elaborate on them individually, he suggested that it is imperative that every serious value investor should stick to them.
In this article series, I will share my views and interpretations of what Chang might have meant with each of his "five rights for value investors." This article is about what is in my opinion the most important "right" – the "right values."
Right values
The first right is to have right values, which are virtues including honesty, integrity, responsibility, frugality, generosity, sincerity and rationality. Value investing is not just about investing, it's a way of life.
Some virtues are easier to pursue. Frugality is one. I've seen many value investors still living a frugal life relative to their wealth level. Perhaps generosity is another one that's easier to pursue for some - at least, most value investors I know are very generous people.
But there are some other values that are easy to identify but extremely hard to practice. For instance, let's take honesty as an example. Honesty doesn't just mean being honest with other people, it also means intellectual honesty. In other words, don't fool yourself. We all know how easy it is to fool ourselves. Intellectual honesty is closely related to rationality because to pursue intellectual honesty, we have to be brutally rational, which then means we have to know what rationality actually is.
Some investors view rationality as seeking confirming evidences to non-falsifiable hypotheses. I view this as a critical issue in value investing because value investors define rationality and truth differently. For instance, some value investors who use a historical valuation analysis approach fall into this category. You can't falsify valuation analysis. If your investment thesis is that Berkshire Hathaway BRK.ABRK.B should trade at 1.5 times book value, it's impossible to refute it because you can always argue that Berkshire has traded at 1.5 times book value in the past. If some day Berkshire Hathaway indeed trades at 1.5 times book value, it is a confirmation of a non-falsifiable hypothesis.
Some have argued that experiences and observations are the most reliable ways for us to get to know the truth. This is the view of the empiricism.
On the other hand, some investors, like Li Lu (Trades, Portfolio), would probably define rationality as critically examining falsifiable theories and actively seeking disconfirming evidences. This means you will be constantly trying to prove yourself wrong. You will also try to seek disconfirming evidences from others and be thankful when others point out your mistakes. The issue here is that if we take this approach, we can never be sure that we are right, even though we can certainly be sure when we are wrong. Obviously this is extremely hard. Albert Einstein was great at disapproving himself, which is why Charlie Munger (Trades, Portfolio) spoke very highly of him.
Beside honesty, there's also integrity. Again, it's easier said than done. It's also not clearly defined. But there are some practices that indicate whether a value investor possess integrity or not and what level of integrity is being practiced. For instance, is the fee structure friendly to investors? Is there a conflict of interests between the fund manager and the investors? Is there a conflict of interests between different investors of different fund classes? Can the manager work as hard when he's managing a billion dollar as when he's only managing a few million dollars? To some extent, it boils down to fiduciary duty.
Probably the best way to understand Himalaya Capital's value system is to trace its origin. It is my extrapolation that Himalaya's value system is rooted in the ancient Chinese Confucian classics, especially the book "The Great Learning," because Chang ended the lecture with the following quote from the book:
"The ancients who wished to illustrate illustrious virtue throughout the kingdom, first governed well their own states. Wishing to govern well their states, they first harmonize their families. Wishing to harmonize their families, they first cultivated their moral characteristics. Wishing to cultivate their moral characteristics, they first rectify their hearts. Wishing to rectify their hearts, they first sought to be sincere in their thoughts. Wishing to be sincere in their thoughts, they first extended to the utmost their knowledge. Such extension of knowledge lay in the investigation of things. Things being investigated, knowledge became complete. Their knowledge being complete, their thoughts were sincere. Their thoughts being sincere, their hearts were then rectified. Their hearts being rectified, their persons were cultivated. Their persons being cultivated, their families were regulated. Their families being regulated, their states were rightly governed. Their states being rightly governed, the whole kingdom was made tranquil and happy."
We can see that at the core of the value system is the "investigation of things," which means trying understand how the world works, and that requires intellectual honesty.
Therefore, we can argue that intellectual honesty is the most important virtue every value investor should aspire to pursue. It is perhaps also the most difficult one. That's why the truly great investors and capital allocators such as David Swensen (Trades, Portfolio), Zhang Lei and Li Lu (Trades, Portfolio) all place intellectual honesty at the core of their system.
I have to say that I still have a long way to go in terms of fully appreciating what intellectual honesty is. But fortunately, with the help and guidance from the greatest investors, we have a clearer path towards the destination.
In my next articles, I plan to cover the other four "rights" for value investors that Chang mentioned in his lecture.
Read more here:
- Notes From Peking University's Fall 2020 Value Investing Course - Lecture 4 Q&A
- Notes From Peking University's Fall 2020 Value Investing Course - Meituan Dianping Case Study
- Notes From Peking University's Fall 2020 Value Investing Course - Lecture 4, Part 3
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