This is the fifth and final installment in a series of posts on what I believe are the top five virtues of a wise investor. You can read about virtue 1: Curiosity, virtue 2: Courage, virtue 3: Thrift and virtue 4: Patience.
Today I’m discussing the fifth: Humility.
If you play poker, you may already know that the most dangerous way to approach the game is to assume you’re the smartest person at the table. Overconfidence-or a lack of humility—almost always leads to disaster.
I tell clients and friends all the time that the same is true of investing: If you think you’re smarter than everyone else—and can even out-strategize the market itself—you mistakenly believe you have skills you don’t really possess. In particular, you’re fooling yourself if you think you can time the market and determine when to buy and sell your investments. The truth is that even financial professionals can’t time the market. It’s just not possible.
As I explained in my blog on overconfidence, a well-known study by UC Berkeley’s Terrance Odean showed that overconfident investors tend to buy and sell more often than their more humble peers. Constant trading caused investors to lose money, and make the wrong decisions at the wrong times.
In my opinion, investors who possesses the virtue of humility will:
Admit that they can’t time the market or outsmart everyone else
Maintain a well-diversified portfolio, since they know they can’t accurately pinpoint the most profitable investments
Refrain from making impulsive changes to their portfolio, because they don’t assume they have a crystal ball and can foretell the future
Seek the counsel of experts, and incorporate those insights into their investing strategy as appropriate
“I Don’t Know”
Being humble means being okay with admitting that I don’t know. That may be the most powerful admission a wise investor can make. Most people make investment mistakes because of false confidence over future events or how a specific investment will behave.
As a professional investor, it takes courage even for me to admit to what I don’t know. After all, don’t clients pay me to “know” a lot of investment-related strategies? I do know I can determine if an investment is a good bargain. I know which investments are good diversifiers. I know when I am being compensated well enough to take risk. I know when I’m not being paid well enough to take risk. I know I can evaluate the level of risk I am taking. In other words, I know what I can do and what I cannot do.
The “I don’t knows” are why I diversify. “I don’t know” is why I don’t time markets. “I don’t know” is a good reason why I’m skeptical of new investments. I take time to do analysis on new investments because there are things “I don’t know.”Admitting “I don’t know” is a powerful statement for a wise investor with humility.
Putting it all together
In addition to humility, I’ve described in this series of blog posts how important it is for investors also to possess the virtues of curiosity, courage, thrift and patience. So which of these are the most important characteristics upon which to focus?
Actually, the answer is: all of them. These five characteristics are really very synergistic. They work together like puzzle pieces. To be a really successful investor, you would do well to develop all of these virtues.
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