Are You Taking Enough Risks?
November 21, 2021
Le meglio è l’inimico del bene.
Or perfect is the enemy of the good, made famous by Voltaire, is perhaps the best investing advice I have ever heard.
It’s also life advice.
You can’t learn everything about coding before taking on a coding project. In fact, the best way to learn is to start the project.
Similarly, a team of software developers can’t really wait to launch with the perfect software. Why? Because if they did, they would be waiting forever to get the job done. Instead, what is needed is a minimal viable product.
In investing, I have seen “perfect” hold up perfectly-fine people in many different ways. Some folks want to learn about all the ins and outs of the stock market before getting started. Unfortunately, many of these souls actually never get started!
Now by no means, I am saying one should jump in with no basic knowledge. But it doesn’t take a lot to assimilate the basics and start the journey. Start small. Perhaps invest via index funds in the beginning. We all learn along the way and both from our successes and failures. So I always say, just start. Let the magic of compounding begin as soon as practically feasible.
Another manifestation of perfection is not taking enough risks. Here, in an attempt to cap the downside, these investors become so risk-averse that they land up, capping their upside. But given the Pareto-like distribution of stock market returns, where something like 20% of the listed companies drive 80% of the market’s returns, the strategy of chasing perfection can result in below-market returns. Instead of pursuing this strategy, one would be better off just buying the index!
By no means am I advocating rampant risk-taking; that’s not a helpful path. Instead, my point is to not be scared of businesses that are pushing the frontiers. Management teams that are thinking big, thinking differently, and aren’t afraid to go against the status quo can change the game under the right circumstances. And when the game changes, the returns too can be phenomenal.
Apple (NASDAQ: AAPL) changed the game when it came to making money by selling consumer electronics. This is an industry that has typically seen fierce competition and margin compression. But that’s not the case if the company is the trendsetter named Apple.
Electric vehicles were thought of as a niche for the rich and unlikely to be a mainstream proposition. That changed when Elon Musk decided to put his PayPal (NASDAQ: PYPL) sale capital behind Tesla (NASDAQ: TSLA).
Netflix (NASDAQ: NFLX) was supposed to be destroyed, first by Blockbuster and later by the intellectual property owners in the complex land of content creation. Well, last I checked, the legacy platforms, except for Disney (NYSE: DIS), are still having their lunch and dinner eaten by Netflix.
When the disruption, the diamond with rough edges, wins, it wins big. And one only needs one of those huge multibaggers to have life-changing wealth.
So, I like to say, pay attention to the upside versus downside asymmetry. And don’t get scared off by the imperfect companies that might be perfect for asymmetric bets!