"A successful investor must possess a number of seemingly contradictory qualities. These include the arrogance to act, and act decisively, and the humility to know that you could be wrong. The acuity, flexibility and willingness to change your mind when you realize you are wrong, and the stubbornness to refuse to do so when you remain justifiably confident in your thesis. The conviction to concentrate your portfolio in your very best ideas, and the common sense to nevertheless diversify your holdings. A healthy skepticism, but not blind contrarianism. A deep respect for the lessons of history balanced by the knowledge that things regularly happen that have never before occurred. And, finally the integrity to admit mistakes, the fortitude to risk making more of them and the intellectual honesty not to confuse luck with skill."
- Seth Klarman (Trades, Portfolio)
Forgive me for the unusually long quote to start this article. It’s one of the best quotes on value investing but rarely practiced and often misunderstood. I’ve been reading some pretty old value investing materials such as the 1980s and 1990s Outstanding Investor Digest issues and Seth Klarman (Trades, Portfolio)’s early letters to investors.
In the modern world with rapid changes, it’s refreshing to read some timeless wisdom and realize that the truths about investing never change. However, seeking truths is easier said than done because it requires constant learning and continual knowledge and experience accumulation. What we think is true at one point may be proven to be false at later point. Such is the case with my understanding of humility and arrogance.
In November 2015, I wrote an article called Balancing Humilty and Arrogance. I thought I did a good job back then, and the article did receive mostly positive reviews. Looking back, I almost laugh at what I wrote – I was so ignorant and naïve that it’s embarrassing to read that article again. A checklist approach is not the solution for balancing humilty and arrogance. But the truth is, we all learn and evolve. And it’s OK to write embarrassing stuff.
There was at least one thing I think I got right in my aforementioned article: A better definition of humility than admitting the possibility of being wrong is staying within my circle of competency and knowing what I don’t know and what’s unknowable. Shortly after writing the article, I bumped into this even better definition of humility from Charlie Munger (Trades, Portfolio): "Humility means that you know the edge of your own competency and you aren’t arrogantly stepping over the boundary." If we invert Munger, we can also come up a better definition of arrogance – not knowing the edge of your own competency and stepping over the boundary.
Munger’s definitions of humility and arrogance seem different from Klarman’s definitions. Klarman’s definition of arrogance is more in line with the dictionary definition. According to Merriam-Webster, arrogance is “an attitude of superiority manifested in an overbearing manner or in presumptuous claims or assumptions.” Applying the dictionary definition of arrogance in investing, we can possibly infer that arrogance means when we buy or sell a security, we think we have superior information or insight based on presumptions.
But Munger’s definition of arrogance is a bit deeper. In my view, Munger’s definition of arrogance relates to why and how we act arrogantly whereas Klarman’s definition relates to the mere fact. If Klarman’s definition of arrogance is on the surface level, Munger took it to a whole new level. The essence of investing is all about predicting the future cash flows of a business. Predicting future cash flows requires a deep understanding of an understandable business. Before you act, you have to know whether a business is understandable by you, what you understand and the limits of your understanding. If you don’t know any of those, you are arrogant.
In terms of humility, Klarman’s definition has less to do with circle of competency (I could very likely misinterpreted Klarman here ) but more to do with admitting that there’s something important that we might not know about a company when we invest in it. In Munger’s definition, that’s arrogance because we should have known whether a company is within our circle of competency (and hence the most important risks) in the first place. Again, Munger’s definition of humility relates to why and how we achieve humility whereas Klarman’s definition relates to the mere fact of being humble.
Conclusion
Writing on the subject of humility and arrogance is probably an arrogant act given my background as a relatively young and inexperienced value investor. But having followed Munger for a few years, I’ve picked up a bit of chutzpa myself. Let me be clear though that I’m not disagreeing with the great Seth Klarman (Trades, Portfolio). I actually think both Klarman and Munger are absolutely right in their own definition of arrogance and humility – they just strike from different angles. The most important thing for us is to keep learning and accumulating experiences so that we will understand humility and arrogance better as time goes by.
