Morgan Housel is on a roll. This is the second consecutive week we are featuring his piece in 3L&3S. This one is a pertinent piece for all of us and especially for us at Marcellus. Most investors we meet, especially in the current market environment look at investing as a return maximisation game. We try and position ourselves as someone trying to optimise risk and return over the given time horizon, often a long one. With this piece, Morgan shows a better way to articulate this aspect and drive the point home. He is at his storytelling best as he shows how everything in nature has ‘a most convenient size’, drawing upon the work of biologist JBS Haldane. He then connects the analogy to investing and business to show why there is ‘a most convenient’ period for investing and a natural rate of growth for business as well.
“…biologist J.B.S. Haldane once showed how many things this scaling issue applies to.
A flea can jump two feet in the air, an athletic human about five. But if a flea were as large as a man, it would not be able to jump thousands of feet – it doesn’t scale like that. Air resistance would be far greater for the giant flea, and the amount of energy needed to jump a given height is proportional to weight. If a flea were 1,000 times its normal size, its hop might increase from two feet to perhaps six, Haldane assumed.
….“For every type of animal there is a most convenient size, and a change in size inevitably carries with it a change of form,” Haldane wrote.
A most convenient size.
A proper state where things work well, but break when you try to scale them into a different size or speed.
A good summary of investing history is that stocks pay a fortune in the long run but seek punitive damages when you try to be paid sooner.
Virtually all investing mistakes are rooted in people looking at long-term market returns and saying, “That’s nice, but can I have it all faster?”
He then shows the returns over different time horizons in US stock market history to arrive at the ‘most convenient investing time horizon – “probably something around ten years. That’s the period in which markets are nearly always to reward your patience. The more your time horizon compresses the more you rely on luck and tempt ruin.”
Morgan uses Starbucks as an example to show there is an optimum rate of growth for any business as well and attempts to accelerate beyond that can be damaging.
And concludes with a Buffett-Munger story”
“A few years ago hedge fund manager Mohnish Pabrai asked Buffett what happened. Rick, Buffett explained, was highly leveraged and got hit with margin calls in the 1970s bear market.
Buffett told Pabrai: ‘Charlie and I always knew that we would become incredibly wealthy. We were not in a hurry to get wealthy; we knew it would happen. Rick was just as smart as us, but he was in a hurry.’
Too much, too soon, too fast.Respect the most convenient state.”
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