Anand Sridharan, an investor at Nalanda Capital has been putting out some insightful essays on various aspects of investing over the years, some of which have been featured here in the 3L&3S. In this post, he puts them all together, which makes it a truly compelling read. The post is a set of slides he used for his talk at IIMA, with each slide elaborated with notes and relevant links to his original essays. The presentation is less about fundamentals and all about what matters most in investing – human behaviour which as Anand puts it is predictably flawed. And hence the audience for this goes beyond those interested in investing. We recommend going through the deck at leisure, not just for the insights but also the wit which makes it a thoroughly enjoyable read. It is hard to pick any snippets but we’ll share a couple of our favourites to give you a sense of what’s in store.
He begins with why unlike basic sciences such as physics which deal with laws of nature, social sciences such as economics and investing are more of a study of human behaviour than anything else:
“Universally valid natural law is the bedrock of all natural sciences. Observe phenomena and impute underlying law. Use law to predict new phenomena. If phenomena contradict law, propose new law and test it against phenomena. How do we approach social world in a similar first-principles manner in absence of universal laws? The closest we get to a universal constant in social world is human nature. We are shaped by evolution, which works at a glacial pace. Our mental wiring hasn’t changed in past few Millenia. It’s why lessons from Bhagavad Gita resonate today as much as when it was written. We are new age people still facing stone age dharmasankatams. Social world is simply large numbers of interacting humans. If we can understand human nature, we can start to make sense of the social world. To do so, we need to see ourselves as we actually are, not as some rational omniscient utility maximisers that exist only in peer reviewed papers.”
And hence he argues we humans are inherently flawed or ‘buggy’ with all our cognitive dissonances:
“We simply don’t have brain capacity to reason through every decision from first principles. We never did, even in simpler times. Imagine optimizing every toiletry product in morning routine by analyzing grammage, quality, price and inventory carrying cost of buying larger pack size. We have to make choices via shortcuts – habit, brand, reviews. Shortcut thinking lets us satisfice, not optimize. Shortcuts mostly work. Otherwise, we wouldn’t be the dominant species on the planet. Flee if you hear a rustle in the bushes is sound evolutionary thinking. If you see rest of your tribe running away from something you can’t see, better to join them than end up as a contrarian lunch. But you can see how the same wiring is counter-productive in certain situations, including stock markets. Long lists of behavioural quirks are nothing but examples of shortcut thinking. Shortcut thinking isn’t irrational. Our mental software mostly serves us well, but glitches every now and then in predictable ways. We’re buggy, like software.”
And worse, we delude ourselves about our bugginess:
“Jerry, just remember. It’s not a lie if you believe it.” – George Costanza Self-delusion has a sound evolutionary basis. Projecting strength scares off competitors without actually having to fight them off. It’s easier to convince others of your strength if you’ve convinced yourself first. Lying to ourselves also makes it easier to live with lying to others, as it minimizes cognitive dissonance. Win-win. This makes it way harder to spot bugginess in first person than in third person.”
And we are supposed to deal with markets which is inherently a ‘messy’ place, a much simpler way to call complex adaptive systems:
“Nalanda started in 2007. Imagine we had a crystal ball that predicted subprime crisis, great recession, Trump, Brexit, global pandemic, Ukraine war. Would you have invested in stocks or in an underground bunker? The period since has turned out amazing for stock-market returns. Who’d have thought? To predict stock market direction or economic outlook, we first need to predict individual variables. Say interest rates, consumer sentiment, business sentiment, commodity prices, inflation, exchange rates. Using models that weren’t any good in the past. Then we combine these unreliable forecasts into an integrated forecast. We aren’t even sure of whether we have right variables, relationships between variables and weightage of each variable. Mathematics of multiplicative probability makes it impossible for final prediction to be remotely correct or useful. The world you are graduating into is inscrutable.”
Thus, he lays the foundation for how can we humans, despite our bugginess deal with the messiness of the markets. Worth going through the entire presentation even if you are not an investment practitioner.
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Note: The above material is neither investment research, nor financial advice. Marcellus does not seek payment for or business from this publication in any shape or form. The information provided is intended for educational purposes only. Marcellus Investment Managers is regulated by the Securities and Exchange Board of India (SEBI) and is also an FME (Non-Retail) with the International Financial Services Centres Authority (IFSCA) as a provider of Portfolio Management Services. Additionally, Marcellus is also registered with US Securities and Exchange Commission (“US SEC”) as an Investment Advisor.
