It seemed appropriate to follow up Howard Marks’ memo with this newsletter from Josh Tarasoff from Green Lea Lane Capital as it picks up the thread on the inherent unpredictability in investing. Except Josh extends this to beyond investing to business and in fact any complex adaptive system. More importantly, he establishes the multi-variate nature of the world which Marks only alludes to in his letter.
“Suppose we categorize activities into simple and complex. Simple activities tend to be found within the context of human-designed systems. The connections between inputs and outputs are linear and well understood, and outcomes are standardized and predictable. With complex activities, the connections between inputs and outputs are more intricate and are not fully understood. While there is an underlying intelligence at work in complex activities, outcomes are unique, path dependent, and can exhibit large variance.
Assembling a Lego set is a simple activity, while growing a tree is a complex activity. The Lego set is a straightforward matter, just add one piece after another, according to the instructions. On the other hand, the tree requires a different approach because its growth cannot be aimed at directly, such as by coaxing a seed to germinate or pulling on a sapling’s branches. Instead, the appropriate approach is indirect: the seed should be properly planted in fertile soil, ample water and sunlight ensured, and so forth—such that over time the tree grows itself. The indirect approach can be thought of as cultivating conditions for the desired outcome to come about naturally.”
Josh reckons such an indirect approach is more appropriate in the world of business and investing where we can at best create the conditions for success.
“I’ve found it healthy to start from a foundation of studying companies and industries that I find interesting, energizing, and promising—something pursued for its own sake, as a sort of default mode. Uncovering meaningful insights is just part of the process, and when they arise it is spontaneous. Occasionally investment conviction falls into place, which feels as much like good fortune as the fruit of hard work. The process looks meandering a lot of the time. Do I also strive for productivity? Yes, but it is a delicate balance, and I think the pitfall is to force something to happen that must happen on its own. Observing the professional investment world writ large, its preoccupation with efficiency, predictability, and standardization is striking: industry categories and specialization, guidance and estimates, price targets, not to mention continuous market commentary, short-term performance reporting and evaluation, and so on. From the perspective of the indirect, one might get the sense that it’s all a bit like pulling on branches to make the trees grow”
He goes on to say that such an indirect approach helps deal with the unpredictability as well: “…an investment thesis should be firmly grounded in reality, so it is sensible to concentrate on just that. In this way of thinking, enthusiastic study of the past and present of companies and industries is the bedrock. When a strong view of the future comes into focus, it is not quite a forecast but an insight about where things are headed. Seeing that a company has a bright future is like identifying a sapling as a sequoiadendron giganteum—also known as a giant sequoia, among the most immense and longest-lived of tree species—planted in nourishing soil and uncrowded by other growth. This assessment is not, in point of fact, a prediction, but rather a perception of potential embedded in the present situation. Forecasts come with the territory, of course, but they are secondary—a tool for adding rigor and dimensioning what the future may hold. Emphasizing potential over prediction could be thought of as the indirect approach”
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