“I rely a great deal on animal instincts.”  – George Soros, Soros on Soros

“Hear a story, analyze and buy aggressively if it feels right.” – Julian Robertson, Market Wizards

“I do an enormous amount of trading, not necessarily just for the profit, but also because it opens up other opportunities.  I get a chance to smell a lot of things.” – Michael Steinhardt, Market Wizards

“We simply attempt to be fearful when others are greedy and to be greedy when others are fearful” – Warren Buffett

“You need a certain amount of intelligence, but it’s wasted over a certain level.  After that it’s more about intuition.” – Stanley Druckenmiller

“You always want to know where the market is – whether it is hot and excitable, or cold and stagnant.” – Bruce Kovner, Market Wizards

“We don’t have an analytical advantage; we just look in the right place.” – Seth Klarman

Kirk or Spock?  Which Star Trek character would have been the better investor?  According to most investing text books, the answer is easy.  It would have been Spock.  He was able to block out his emotions and make purely rational decisions.  Yet, none of the great investors quoted above sounds like a highly logical Vulcan.  The world’s legendary money managers use their feelings.  Instead of suppressing emotion, they actively sense what others in the market are thinking.  They also employ gut instincts when making decisions.  How is it possible that these great money managers complement rational thinking with some of their feelings to make better investment choices? How do they do so without being negatively influenced by those emotional biases that hurt everyone else?  What exactly are these useful feelings?  How can they be developed?  How can they best be used?  I decided that the answers to these questions were too important for me not to devote significant time to ponder and research them.  Furthermore, since I could not find any one book that directly addressed all these questions, I decided the best way for me to learn, and hopefully help others, was to take on the challenge of writing one myself.  This book is about trying to develop and utilize those types of intuitions and empathetic realizations that aid in successful investing.  It is also about how to limit mistakes caused by those primal feelings, which can lead to biases that negatively impact returns.

The book is structured into three parts as follows.

PART 1 – Self-Awareness

Too many people try to emulate Warren Buffett even though they may have weaknesses, motivations and personality traits that are in conflict with his approach to investing.  It would be like telling an aspiring basketball player who is only 5’8”to play like Shaquille O’Neal.  The shorter player can still be great, but he needs to learn how to play in a different way.  I used to work for George Soros, for example, and he would never have been successful if he used Buffett’s style.  Contrary to popular opinion, there does not seem to be one type of personality that is superior.  The master investor adopts an approach for making decisions that bests fits with whom he or she is.  Given this fact, it is amazing how little time most people actually spend on self-reflection.  In Part 1, I provide a template for introspection and a framework for how one can develop an investment process that works best with one’s unique set of attributes.

It is human nature to avoid feeling shame, regret and fear.  In fact, we all create self-defense mechanisms against feeling these “negative” emotions.  For example, some of us, me included, are vulnerable to realizing gains too quickly.  Failing to sell a winner opens up the possibility of an eventual loss, which could make me feel regret or shame.  Consequently, I often sell winning positions to avoid the risk of these negative feelings, even though it may be best to hold the investments longer.  I consider this one of my weaknesses.  Humans also use various mental shortcuts, especially when under stress.  For example, stress often causes overtrading.  When one is inordinately stressed, doing something feels better than doing nothing, even when the latter is more logical.  Instead of actively reducing stress, most of us exacerbate the situation.  We multitask.  We operate under the assumption that we have an infinite capacity to digest information.  We keep the TV on, talk on the phone and read emails and instant messages simultaneously.  The brain does not operate best like this.  In fact, research has demonstrated that our capacity for rational thought only allows for focusing on a relatively few things at once.

Our self-defense mechanisms, mental shortcuts and fluctuating moods cause common mistakes to occur when managing our investments.  The initial stage of self-reflection should involve appreciating the specific problems to which you are most susceptible.  These are your weaknesses.  It is important to remember that people are different.  Compared to me, you may be less likely to sell your winners too early.  However, you may be more prone to other traps.  The mistake most investment gurus make is to assume that you are like them.  I illustrate some techniques to overcome each weakness, but no specific method works for everyone.  There is no one-size-fits-all prescription.  Each of us needs to conduct experimentation and self-reflection to recognize what works best.

Understanding personality traits and motivation is another important step before an investing style can be established.  There are generally two ways to invest: one can either be contrarian, betting against the crowd, or one can bet that more investors will join the crowd and the current trend will continue.  Each approach requires a different skill set, and certain personality traits influence how successful one can be when using each style.  For example, a person that is impulsive and has high emotional sensitivity may find it more useful engaging an investing approach that bets on the current momentum continuing.  He may also be better off utilizing stop-losses to limit the psychological pain from loss.  Those with high emotional sensitivity often allow prior losses to negatively impact their future decision-making.  On the other hand, siding with the current trend and employing stop-losses is inappropriate for an investor like Warren Buffett.  Buffett is more thorough in his analysis and can maintain his emotional equilibrium, even after experiencing significant loss.  Moreover, whether one is a short term trader or a longer term investor should be influenced by one’s motivations.  For example, people like Buffett, who enjoy learning about businesses’ sustainable competitive advantages, are better off being longer term investors.  Others, like Soros, who view investing as a vehicle for testing theories, should be open to a shorter term investing horizon.  I conclude Part 1 by providing some techniques psychologists and investors utilize to continuously enhance their own self-awareness.

PART 2 – Social Awareness

Once we can understand the common mistakes people make simply because of human nature, we can then learn how to profit from their errors.  This is where empathy comes in.  In Part 2, I discuss how to use social awareness to get an edge.  Our brains have something like a Wi-Fi network that can tap into the emotions of others.  It is a terrible waste of mental resources not to put this powerful capability to use when investing.  The ability to be in the shoes of other investors and feel what they are feeling is an indispensable weapon in the investor’s armory.  Paul Tudor Jones affirms that it is less important to understand news than to anticipate the market’s reaction to it. The best way to do so is through empathy.  For example, in early 1990, Jones empathized with the tremendous pressure Japanese fund managers were under to return at least 8% per year.  While it may seem like an aggressive expectation in today’s market, the average Japanese household in 1990 had become accustomed to making at least 8% per year.  Any manager who underperformed that hurdle rate ran the risk of losing his job.  So when the market sold off 4% in January, the Japanese portfolio managers had a choice: they could keep their jobs and still make the 8% minimum return by reallocating aggressively into bonds or they could take a risk on trying to outperform by buying even more equities.  By putting himself in the shoes of the average Japanese fund manager, Jones realized that most of them would not want to risk their jobs.  Consequently, Jones correctly bet that the Japanese stock market would suffer a major correction.[i]

Many investors use technical analysis but do not understand its significance.  They think it is helpful, but they don’t really understand why.  Others compare chartists to astrologers.  I used to be in the latter camp, but I will explain what convinced me to switch sides.  A chart can evince a tremendous amount about what the current holders of a security may be feeling.  Therefore, it can be helpful in developing an investing edge.  I illustrate how ten of the most common chart reading principles can be explained using empathy.  For example, a support level on a stock chart is the result of our bias to sell winners too early and our inclination to make associations with prior positive outcomes.  Imagine several people, who originally bought IBM near $160 and sold it at $180.  They each experienced a positive outcome.  Most of these people will create a mental shortcut that associates buying IBM around $160 with a positive feeling.  Therefore, $160 becomes a support level.  In fact, this association can be so powerful that they can ignore facts such as a deteriorating outlook for the company’s fundamentals or negative changes in the economy.  Likewise, a resistance level on a stock chart is the result of the human self-defense mechanism against feeling the shame of being wrong.  A resistance level is created when there are many holders anxiously waiting to sell for a lucky escape once they get back to a price that would yield a ‘break-even’ result or a slight gain.  Imagine many people, who bought shares of Research in Motion (RIMM) at $15 because they were hopeful the company would turn its business around with new product introductions.  After RIMM’s new products got bad reviews, some of these people sold, causing the stock to drop sharply.  Those who didn’t exit, likely now feel stuck.  They desperately want to avoid the shame that comes from selling at a loss, so they continue holding on to losing positions.  They hope for a bounce back to $15, so that they can exit and break-even.  Thus, $15 becomes a resistance level.  In addition to explaining why the concepts of support and resistance make sense, I address several other chart reading ideas such as why a bull market tends to top out when the “leading” group of stocks starts underperforming or when there are fewer stocks making new highs.

We can also learn to use our own emotions to understand how others in similar circumstances may be feeling.  For example, some investors use their own feeling of fear to know when a good time to buy is.  If we need certain events to occur before being comfortable in an investment, others are probably feeling the same way.  Consequently, we may want to take a chance and invest ahead of the events, especially if the stock’s chart indicates a fair amount of support that is relatively close.

Finally, social awareness can lead to an edge when observing management speak or even when just reading an annual report.  We are all dependent upon the top management of the companies we invest in.  They are making investments with our money every day; therefore, we want to make sure that they are also self-aware.  We also want to make sure that they are trustworthy.  When interviewing management teams, we should challenge them to admit their true motivations and weaknesses.  I suggest a process for how to be on the lookout for statements from management teams that imply that they lack self-examination or integrity.

PART 3 – Intuition

In part 3, I discuss how we can effectively develop and use intuition.  Intuition is not some sort of magical sixth sense.  Instead, it is a complex feeling that arises from pattern recognition.  Chess grandmasters usually know their next move within a few seconds.  Instead of suppressing their emotions, they first utilize gut feelings regarding their best possible move depending on how the pieces are laid out on the board.  These grandmasters then use their reason to make sure the move is safe.  If the initial gut instinct is found to be flawed, they start the cycle again with another intuitive feeling.[ii] Many of the best investors seem to do something similar.  For example, Warren Buffett does not start his investment process by comparing a bunch of possible investment alternatives.  He does not depend on quantitative screening tools.  Instead, Buffett intuitively gravitates towards a company he finds interesting and understands.  He then analyzes the company, its industry, and its valuation to determine if the investment makes sense.  If it does not, he moves on to the next company his intuition leads him to analyze.  If the potential investment seems safe or attractive, Buffett refers back again to his intuition regarding the management’s competency and trustworthiness.  He also utilizes gut instincts with position sizing, overall market exposure, and in sensing danger.

Experience does not necessarily lead to expertise and intuition.  In the same way chess grandmasters develop intuition through training exercises and reviewing prior matches, investors can use visualization exercises and certain techniques to make sure they get the most out of their experiences.  By imagining certain situations and how you would react to them, you can build expertise without actually having to risk capital and significant time.  Furthermore, with real-life experience, it is imperative to have a process that continuously evaluates choices in an objective way.  Instead of just calling decisions bad or good, we should focus on why we made the decisions.  We can also learn to better leverage the experience of others.  You know you are on the right track when you are regularly seeing patterns that you would not have recognized before.  I go over how these intuitions arise and how we can try to listen to them in a secure way.  Finally, I provide case studies based on my own experience, to exemplify how intuition can be developed and safely harnessed.

In the final chapter of the book, I try to put everything together.  I offer a dozen possible procedural recommendations that may improve decision-making.  For example, relatively few investment firms incorporate personality tests in their recruiting processes.  This is surprising, since most funds market a unique investing approach to their clients.  Investment funds will have a much better chance of sticking to their investment style and will have better cultural unity if they actively recruit people with personality traits that best fit with their specific investment approaches.  Moreover, in many firms, junior analysts, who have the least experience, are the employees most responsible for selecting ideas to work on.  Junior analysts are also often relied upon for position sizing recommendations.  Since idea selection and position sizing are two aspects of investing that most rely on intuition, this bottoms-up type process is nonsensical.  It is an example of how intuition is often taken for granted.  Senior members of an organization regularly assume that subordinates can recognize complex patterns as well as they can.  I also briefly address what this book’s concepts imply for non-professional individual investors and for clients of investment funds.  Lastly, I mention how some of the ideas presented can influence life outside of investing.

Reflections on Myself

After eight years as a managing director at a well-respected hedge fund and at an age that is normally the peak of one’s career on Wall Street, I made a somewhat controversial decision.  I decided to quit my well-paying job to a take a step back to reflect.  I traveled around the world, volunteered as a teacher in Western Africa and took a philosophy course at Oxford. After all these experiences and considerable reflection, I returned to New York with a reinvigorated passion for investing.  I subsequently attempted to construct a system I could use to continuously improve.  Writing this book is part of my journey in developing that framework.  I plan to use it as a reference for the rest of my career.

Most acknowledge that investing is part art and part science.  After studying both engineering and finance in school, I started my career with a pretty good handle on the scientific or analytical side.  Therefore, I understood that if I wanted to grow into a superior investor, I needed to better know the “art” of investing.  While there is a plethora of books that addresses analytic decision-making with respect to financial decisions, I had difficulty finding much out there about the less scientific side of investing.  There are various aspects of the artistic side, but the focus for this book is how we can better employ our emotional brain processes to make more profitable investment decisions.  I’ll save other aspects, such as creativity, for another time or for another writer.

Investing Philosophy and Psychology

Since Plato, people have been preaching suppression of emotions in favor of rationality.  Plato believed that the soul was constantly torn between reason and impulsive emotion and that we needed to try to tame the “beast inside of us” to make the best decisions in life.  This line of reasoning was somewhat supported by a popular 2005 Wall Street Journal article titled, “Lessons from the Brain-Damaged Investor.”  Research had been done on people that had damage in one or more parts of the brain that generate emotions.  Participants were given $20 to start and were told that they would have to make a series of “invest or not invest” decisions before 20 coin flips.  If they decided to invest and the coin landed on heads they would lose $1.00.  If it landed on tails the subjects would receive $2.50.  After the experiment, they could take home whatever they had accumulated.  The expected outcome of each round was +$0.75.  Therefore, the most optimal decision was to invest in every chance.  The study found that these brain damaged patients were more likely to do just that.  Many people in the control group were not as logical.  After losing a prior round, a significant portion of the ‘normal’ group started to fear loss and this resulted in excessive risk aversion.[iii]  I remember wondering why Wall Street was not full of people that had brain damage.  Since I was having a good year at the time, I even wondered if I needed to get myself checked out! It turns out that while these brain-damaged patients may do well in a very simple experiment like this, they do poorly with investments in real-life.  The real world is characterized by many variables, scarce information and time constraints.  Although many of these patients could be highly intelligent, they wind up unable to make everyday decisions like what to wear in the morning, where to park and where to eat.  They tend to endlessly deliberate the pros and cons of every small decision.[iv]  Given all the decisions we need to make every day, it is impossible to appropriately analyze every one of them.  Other similarly brain-damaged patients have been shown to make overly risky decisions.  We need to feel fear in order to avoid taking excessive risk.[v]  In The Social Animal, David Brooks summarizes a key finding of recent research of the brain.  Brooks affirms, “Reason and emotion are not separate and opposed.  Reason is nestled upon emotion and dependent upon it.  Emotion assigns value to things, and reason can only make choices on the basis of those valuations.”[vi]

The brain is designed in such a way that optimal decision-making is intertwined with emotion.  In a cross-disciplinary project, John Ameriks, Tanja Wranik, and Peter Salovey conducted a study of 2,595 Vanguard IRA and 401k investors in 2005 and 2006.  They asked each participant to complete psychological tests that measured aspects of their emotional intelligence and personality then monitored their investment decisions.  They defined emotional intelligence as four competencies that involve perceiving, using, understanding and managing emotions and scored each of these aptitudes separately for each subject.  People ranking high in ‘perceiving’ easily recognize emotional signals in others.  They are more empathetic.  Those who score well in ‘using’ employ their feelings more when making decisions.  They are the type of people who do not do something, because it feels “wrong.”  Participants highly ranked in ‘understanding’ are good in articulating how they feel.  Finally, those who score well in ‘managing’ are great at regulating their emotions.  Plato would probably have scored highly in ‘managing’, for example.  According to the theory that it is best to be rational by suppressing emotion, one would expect that investors who could better manage their emotions would be the ones who perform best.  In fact, the participants that scored highest in their ability to use their emotions were the superior investors!  The next best performance was from the subjects that scored highest in perceiving emotions.  The ability to manage one’s emotions appeared to be the least important competency of one’s emotional intelligence.[vii]  The team demonstrated that we need to do much more than just keep our feelings in check; we need to actually utilize our feelings to make the best decisions.  While the researchers had no way of confirming what emotions the best investors were using, I hypothesize that it was a combination of intuitive and empathetic feelings that led to conviction in their decisions.  A great thing is that all of us can become better at using and perceiving emotions.  Unlike IQ and most personality traits, which are relatively fixed after our early teenage years, research has proven that our emotional intelligence can be strengthened with effort.[viii]

Investment firms are increasingly pressured to be more transparent about their decision processes, for various reasons that range from the fallout of the Madoff Ponzi scheme and higher regulatory scrutiny to greater employee hierarchy.  While the increased transparency may satisfy clients or regulators and may allow for better management of organizations with growing headcounts, it also comes at a considerable cost:  less use of intuition and social awareness and over-use of rational / analytical thought processes.  More often than not, when financial analysts are forced to write detailed memos regarding their ideas and trading recommendations, they abandon their intuitions and overly focus on quantitative or more analytical aspects of the investment.  This can inevitably lead to an overly low tolerance for uncertainty, incorrect position sizing, frustration between the portfolio manager and analysts and other issues that result in suboptimal performance.  Moreover, computer programs now account for the majority of the daily volume on most stock exchanges.  If we are going to outsmart the computers and other human players in the market, we will increasingly need to harness some of our emotional thought processes more effectively.  Feelings are our main competitive advantage against the machines and ever more against humans who are increasingly suppressing their intuitions.

Professional investors sometimes talk about high conviction trades similarly to how professional basketball players talk about being “in the zone”.  A basketball player in the zone has a strong feeling that his shot will go into the basket before it even leaves his hands.  Similarly, a professional investor, who feels high conviction in a trade, intuitively knows that the probability of success is high.  The decision just feels right!  Professional investors are trained to be aggressive with position sizing whenever this strong feeling arises.  The problem is that for most of us, high conviction in an investment decision is rare.  Maybe a better understanding of what this feeling actually is will increase the chances of feeling it?  The Merriam-Webster online dictionary defines conviction as “a strong persuasion or belief“, but what makes a belief in an investment idea “strong”?  After reflecting on my own high conviction trades over the past several years, I affirm that conviction is developed not just by using feelings, nor just by rationality, but by the two sides of the brain being in sync.  Conviction is arrived at through the recognition of patterns that remind the investor of previous successes.  What seems uncertain to most, is relatively predictable to the investor with high conviction.  But that is not enough.  Conviction also requires analytically and comprehensively understanding the fundamentals of the company and the industry one is investing in.  It involves a good understanding of the emotions of the current holders of the security, and an appreciation of what other investors looking at the stock may or may not do if certain events occur.  High conviction is not overconfidence.  Overconfident investors are not prepared for what can go wrong.  An investor making a high conviction trade is quick to recognize when to be even more aggressive and is equally fast to sense danger and get out.

There are many books on how one can better rationally analyze investment options.  In this book, I focus on the more “touchy-feely” aspects of conviction.  Many investors and traders are the type of people that are scared off by words like “self-reflection” and “empathy”.  If you are one of those people, this book is vital for you.  Hopefully, after reading it, you will, like me, develop a much better understanding of yourself and how you can utilize empathy and intuition to make a better percentage of high conviction decisions that lead to improved returns both for your portfolio and your general well-being.  I view investing as an instrument for overall self-improvement.  Dr. Brett Steenbarger, a psychologist and trader, writes, “Every gain is an opportunity to overcome greed and overconfidence.  Every loss is an opportunity to build resilience.”[ix]  Each decision is a chance to learn something valuable about myself.  Cultivating self-awareness, empathy and intuition in a way that is supplemented with rational thinking does more than empower someone striving to reach his or her potential as an investor.  These things also help one become a better person and live a more fulfilling life.  That realization is what made me understand that I loved investing.

What You Might Want to Ask Before We Start

In the spirit of being empathetic, I have tried to anticipate a few initial questions you may have, and I have answered them:

Why should I listen to you?

It’s fair to ask what qualifies me to explore self-awareness, empathy and intuition with respect to investing.  While I graduated summa cum laude from The Wharton School of Business and simultaneously completed an engineering degree, I have never published anything before and I am not a psychologist or an economist.  I worked at a couple of respected multi-billion dollar hedge funds – Soros Fund Management and Karsch Capital Management.  While in school, I worked odd jobs and incurred massive debt in order to pay tuition.  I am now in the fortunate position of not needing to work for anyone else.    However, I am certainly much less successful than many other professional investors, especially when compared to those I reference.  I was also probably lucky to have entered the hedge fund industry when I did.  As I related earlier, the purpose of writing this book is to help me become a better investor.  If it helps others, that would constitute as a bonus.  The book is a compilation of (i) research I have read from prominent academics that specialize in decision-making, (ii) reflections on my past mistakes (of which there are many!) and successes, (iii) lessons from various mentors throughout my career, and (iv) the study of some of the statistically better decision-makers in the investment management industry.  I have personal relationships with portfolio managers and analysts at many of the world’s largest hedge funds and have also tried to learn from their respective firms’ best practice approaches.

For whom is the book intended?

The book is primarily written for professionals working at investment management firms.  However, the material discussed is purposely kept relatively simple so that the individual non-professional investor can also benefit.  I show how professional investors have several advantages despite the government’s effort to level the playing field.  Additionally, I demonstrate how individual private investors can play to their strengths and (in some cases) outwit the professionals.  Clients of investment funds may also learn how to better evaluate those who manage their assets.

The concepts in this book are applicable to both longer term investors and shorter term traders.  After all, both types of money managers are doing the same thing at a high level.  They both buy with the anticipation of generating an acceptable return.  In fact, one of the main points I make in the book is that it is premature to decide on an investing style without first understanding oneself.  While I consider a “trader” anyone who has an investment timeframe of less than a year, I describe all types of money managers as “investors.”

I invite the reader to join me on this journey.  I hope it will prove helpful in a time when the analytical side of investing seems to be much more in vogue.

So many great investors have talked about how the secret to their success is discipline.  Are you disagreeing with them?

Not at all!  Discipline is certainly required to safeguard against many of the common investing traps that are caused by our desire to avoid feeling negative emotions and stress.  However, even the investors who preach self-discipline need to ultimately rely on their emotions to make investments.  Warren Buffett did not have a mathematical formula to help him decide that GEICO would be a great purchase.  Even if he had a formula, how did he decide to spend time understanding GEICO instead of all the other companies out there?  How does Buffett decide to invest $1 billion into one company and only $100 million into another?  How does he decide who the CEOs of his companies should be?  How does Buffett appreciate that others are fearful enough for him to start being more greedy?  The answers to all of these questions and others like them depend upon intuition and empathy.  It is therefore wrong to ignore all feelings, since intuition and empathy are based on emotion.  Buffett sticks to an approach that works well with his weaknesses, motivations and personality traits.  His does not ignore emotions.  Rather, Buffett relies heavily upon them.  His discipline enables him to utilize his intuitive and empathetic feelings in a safe manner.  This book offers a framework for self-reflection so that people can develop an investment strategy that fits their unique behavioral characteristics and motivations.  Once a strategy is developed, it is vital to be disciplined.  Experience does not necessarily lead to intuition.  Thus, it is necessary to have a methodical process that enables one to get the most out of experience.  While I focus on self-awareness, empathy and intuition in this book, I obviously still think traditional analysis is extremely important.  Just like the chess grandmaster, an investor should be guided by intuition, but the majority of his time should be spent on logical reasoning to make sure his gut instincts are in check.  Therefore, my goal is to optimally complement fundamental analysis.  I do not mean to belittle it in any way.

Isn’t the stock market too complex for intuition?

In The Power of Intuition, Gary Klein, who has been researching decision-making for decades, cites how a large percentage of mutual funds consistently underperform the market indices.  To him, this is proof that intuitions built from investing experience do not translate into better decision-making.[x] The psychologist Daniel Kahneman, a Nobel laureate, also affirms that the stock market is too complex and random for helpful gut instincts to develop.  Furthermore, if intuition comes from experience, critics argue that we should theoretically see investment performance improve with age.  This does not seem to be the case as many great investors such as Michael Steinhardt, who often mentioned the importance of instinct, perform worse in their later years.  These arguments are flawed.  While the overall market may seem complex and random, I will show how there are many patterns within it that recur frequently.  The best money managers recognize patterns developing ahead of most.  The intuitive decision-making that is involved with investing is much more complicated than other types of decision-making.  However, that does not mean that we should abandon trying to better develop and use gut instincts when we invest.  While it is true that most mutual funds underperform, a small percentage outperform consistently, which suggests that there is a handful of investors with a superior approach.[xi]  Without a good investment strategy, primal emotions of regret and fear can overwhelm helpful gut instincts.  Many professional investors are either not self-aware enough to know how these emotions can impact them or they are trained to completely ignore all feelings along with their helpful intuitions.  Most investors also do not recognize when good luck may have significantly impacted their trading performance.  Consequently, they often develop gut instincts that are not helpful.  Moreover, because other market participants are constantly on the lookout for successful strategies that can be back-tested, intuitions run the risk of going obsolete over time and the successful investor needs to be on the lookout for this obsolescence.  Finally, for the short term trader, intuitive decision-making often involves the added complexity of needing to have gut instincts concerning other people’s gut instincts.  This can be a very challenging skill to maintain over a long period of time, especially since good performance usually leads to the accumulation of a greater amount of assets, which cannot be managed as dynamically as before.

Aren’t many of these “great” investors you analyze just lucky?

Some may question the study of decision-making by the best investors.  In Fooled by Randomness, Nassim Taleb argues that this is a dangerous exercise since many of the “best” investors are just lucky.[xii]  If 200 people flip a coin 11 times, 5 people are statistically likely to hit heads every time.[xiii] Taleb argues that studying successful investors is the same as studying those 5 lucky people in the set of 200.  In a 1984 talk given at Columbia University, Warren Buffett disagreed with this line of thinking citing how many successful investors, such as himself, were trained similarly by Benjamin Graham.  He said, “I think you will find that a disproportionate number of successful coin-flippers in the investment world came from a very small intellectual village.”[xiv] This proved to Buffett that success could not just be random.  While I agree with Buffett, Taleb makes an interesting point.  Strong investment returns do not necessarily imply skill.  I restricted my analysis to only those investors who had very long term track records of success in order to limit my chance of just analyzing a “lucky coin flipper.”