Friday, July 23, 2004
Don't go in in the middle
A mail I received privately asked for clarification of my 30% margin of safety requirement and if it is philosophy or dogma. Would I steadfastly refuse to buy a stock that offered a twenty-nine percent appreciation to fair value and risk missing a significant gain? Is that thirty percent a rule of thumb/ballpark figure or a rule?
A recent second viewing of Woody Allen's Annie Hall reminded me of my own insistence for thirty percent from shares. Annie (Diane Keaton) and Alvy (Woody) have met at the cinema but the film, some Bergman effort (the kind of thing people watch to make them feel intelligent and discerning), has just started:
Alvy Singer: Forget it, I can't go in.
Annie: Two minutes Alvy..
Alvy: I can't do it, I can't go in in the middle.
Annie: In the middle? We'll only miss the titles, they're in Swedish!
Alvy: I'm sorry, I've got to see a picture exactly from the start to the finish - because I'm anal.
Alvy's insistence that he can't miss the first two minutes appears unreasonable, overly-fastidious and 'anal' - his slavish adherence to the rule has ruined their evening. Does 'thirty percent' condemn me to missing profitable opportunities that offer twenty-seven, twenty-eight or twenty-nine percent wins?
Yes.
But 'thirty-percent' greatly increases my chances of avoiding a loss. That extra percent or two in my margin of safety ratchets down the probability of loss disproportionately, who knows how much but possibly five or ten percent. The expected gain increases with the margin and those extra fractions compound handsomely on successful reinvestment.
Why thirty percent? I can only say it's a number that feels right for me. At thirty percent I can relax, confident my holdings are undervalued and will deliver a significant return. Any less and the capital at stake would be at greater risk and holding more stressful. Find a margin of safety that feels right for you and stick to it with discipline. Don't go in in the middle, you could be missing a lot more than you think.
The Artful Dodger
A recent second viewing of Woody Allen's Annie Hall reminded me of my own insistence for thirty percent from shares. Annie (Diane Keaton) and Alvy (Woody) have met at the cinema but the film, some Bergman effort (the kind of thing people watch to make them feel intelligent and discerning), has just started:
Alvy Singer: Forget it, I can't go in.
Annie: Two minutes Alvy..
Alvy: I can't do it, I can't go in in the middle.
Annie: In the middle? We'll only miss the titles, they're in Swedish!
Alvy: I'm sorry, I've got to see a picture exactly from the start to the finish - because I'm anal.
Alvy's insistence that he can't miss the first two minutes appears unreasonable, overly-fastidious and 'anal' - his slavish adherence to the rule has ruined their evening. Does 'thirty percent' condemn me to missing profitable opportunities that offer twenty-seven, twenty-eight or twenty-nine percent wins?
Yes.
But 'thirty-percent' greatly increases my chances of avoiding a loss. That extra percent or two in my margin of safety ratchets down the probability of loss disproportionately, who knows how much but possibly five or ten percent. The expected gain increases with the margin and those extra fractions compound handsomely on successful reinvestment.
Why thirty percent? I can only say it's a number that feels right for me. At thirty percent I can relax, confident my holdings are undervalued and will deliver a significant return. Any less and the capital at stake would be at greater risk and holding more stressful. Find a margin of safety that feels right for you and stick to it with discipline. Don't go in in the middle, you could be missing a lot more than you think.
The Artful Dodger
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