Poor Charlie's Almanack: Investing Wisdom From Charlie Munger w/ Shawn O’Malley (MI361)
Summary
Munger Philosophy: Emphasis on not getting wiped out, high-conviction patience, and rigorous skepticism toward hype-driven investing.
Micro Over Macro: Advocates bottom-up, multidisciplinary analysis using mental models from psychology, physics, and biology to understand business quality and competition.
Industry Profitability: Contrasts commodity-like industries such as airlines with branded consumer goods, explaining why the latter often deliver better shareholder returns.
Brand and Scale: Highlights how economies of scale, brand recognition, and social proof support durable moats, using examples like Coca-Cola and Walmart.
Behavioral Finance: Explores biases (confirmation, inconsistency avoidance) and the Lollapalooza effect, stressing the need to counter hard-wired misjudgments.
Incentives Matter: FedEx pay-structure example demonstrates how aligning incentives can unlock operational efficiency.
Hype Risks: Skeptical stance on AI, crypto, and meme stocks, prioritizing capital preservation and avoiding speculative manias.
System Design: Notes functional equivalent of embezzlement (fee drag) and the societal value of accountability systems like double-entry bookkeeping.
Transcript
(00:00) when it comes to investing across a lifetime what really matters is not getting wiped out and you need a good bit of skepticism about any decision you make to avoid betting at all on something really exciting but also really risky I can imagine how many bullets Charlie probably helped Warren Dodge up until his death last year he was still bringing his signature skepticism to all of today's most popular buzzwords from crypto to Ai and and meme stocks [Music] happy to have you back we are getting into our final episode which is this has (00:36) been a lot of fun we've we covered the essays of Warren Buffett we've covered Benjamin Graham and the intelligent investor we did The Outsiders last week we're going to cover what I would say is like the third key figure of this kind of legendary value investing Trifecta which is Charlie Munger and my first question I wanted to get into is talking about Benjamin Franklin Franklin was this huge inspir for Monger in his life and and many see Munger having carried this torch of Franklin's Legacy who's (01:07) famous obviously for many things but the book's title poor Charlie's Almanac is inspired by Ben Franklin's annual publication that he put out called Poor Richards Almanac so I wanted to start just talking a little bit about Ben Franklin and how he ties into the Charlie Munger story Charlie is synonymous with Warren Buffett and Brookshire Hathaway which sort of implicitly connects him to Ben Graham who as we know is considered the father of value investing but when you look at Charlie's life individually that he's so (01:37) much more than Warren Buffett he's so much more than Warren Buffett's partner or even a value investor he was an incredibly clear thinker across a number of domains from physics to psychology to law and even meteorology so Charlie packs an intellectual punch in a way that very much distinguishes him from his longtime partner Warren Buffett who tends to stray less far from economics and finance you might even say that similar to how Bing Graham shaped Buffett's views on investing the writings of Benjamin Franklin had a (02:11) similarly profound impact on Munger Charlie famously loved to read biographies and he saw this as a way to make friends with the imminent dead so I don't think it's as much of a stretch as it may seem to say that Franklin was like a mentor to Munger despite there obviously being a 200-year Gap in their lifetimes and if you're not familiar with Ben Franklin's life that would probably sound pretty strange but Frank Franklin is one of History's great multi-disciplinary thinkers he was a philosopher politician writer and (02:43) prolific inventor we could probably spend an hour just going through all of his accomplishments in detail what's relevant is that for 25 years starting in 1732 he wrote an annual publication called Poor Richard's Almanac using the pseudonym poor Richard and it would have had a ton of useful information for people at the time but it's best remembered today for the life advice that it offered for two centuries Franklin had the last word on how to live a virtuous life until Charlie came along and really pushed forward a lot of (03:14) that advice to new generations of people and ask even more of them in some ways what makes them similar is that they're both self-taught neither were happy to defer to experts in other subject matters they wanted to be proficient in every noteworthy intellectual domain they were both pull yourself up by your bootstraps guys and much of this book is Munger teaching people how he did that how he built up a collection of mental models and Frameworks from a lifetime of ravenous reading and how he used that toward making better decisions in (03:46) business and in life so speaking of Monger mentors Warren wasn't the first member of the Buffett family that Munger knew I wanted to hear a little bit about the origin story of Buffett and Munger and their relationship yeah it's funny as you said munger's first contact with the buffets was with Warren's grandfather Charlie was a few years older than Warren and worked at Warren's grandfather's grocery store as a teenager so the two grew up around each other but didn't really cross paths until a few years later and (04:17) during this time like he did with his whole life really Charlie read every book he could get his hands on for for Christmas his gifts would be a handful of books and sometimes by the end of the night he would have already finished several of those books and at 19 he enlists in the Army Air Corp during World War II and studies meteorology and thermodynamics from there with some help from a family friend he gets into Harvard Law despite not having a bachelor's degree and finishes near the top of his class after that he moves to (04:47) Southern California where he begins practicing law until after a few years he realizes that it's just not stimulating enough for him and that he can't really earn the kind of wealth he envisions for himself working as a lawyer especially at that time where I don't think it was as profitable to to work in law so on the side he he picks up investing in real estate and stocks and crafts his Exit Plan from the law firm and then at a dinner party in Omaha that's where the stars align Charlie remembers Warren from his days working (05:17) in the grocery store and Warren remembers Charlie because when Warren was raising funds for his own investment partnership someone mentioned that they'd happily invest with him because he reminded them so much of Charlie Munger and as The Story Goes the two just hit it off talking about very obscure stock picks and they dominate the dinner party with their conversation but obviously they keep in touch after that for many years and and they frequently send each other long letters or would talk on the phone for hours and (05:46) during this period the two were both running their own separate investment funds and everyone probably knows that Warren Buffett did very well but Munger also held his own as a stock picker in his Partnerships first 11 years he earned 20% per year and then bounce back from a bare Market in 1974 to deliver 19. (06:07) 8% compounded annual returns over those 14 years before he decided to follow Warren's lead and and close up his investment fund and that's around the time when Warren invites Charlie to join him in running birkshire we we all know the story after that but what's interesting to me is how Munger never wanted the credit for burshire Success when asked to provide some comments for the book Munger really tried to understate his role I I have a quote I'm just going to read it verbatim he says I think there's some mythology in this (06:36) idea that I've been a great enlightener of Warren he hasn't needed much Enlightenment I frankly think I get more credit than I deserve it is true that Warren had a touch of brain block while working under Ben Graham and making a ton of money it's hard to switch from something that's worked so well but if Charlie had never lived the Buffett record would still be pretty much what it is I think part of what makes Charlie and Warren so appealing to people is just this their natural chemistry that (07:04) they have it's it's just fun to watch the two of them riff with each other at at a shareholder meeting Warren supplied this folksy optimism and Charlie was just the sidekick with this super dry humor what would what else would you say makes Munger so special as a person what would you say made him tick Warren is probably as qualified as anyone to paint a picture as to who Charlie Munger was and I'll just relay what he writes in the book he calls Charlie a grandmas of preparation patience discipline and (07:35) objectivity and so being a great investor in a way is a natural byproduct of the carefully organized and focused approach to life that Charlie had he had something like a hundred mental models he kept in his head to explain human behavior and biases and he became extraordinarily efficient at working through all those models for understanding the world Buffett gives him probably the best praise any investor could give to another by saying that no man in the world could analyze a deal faster than Charlie he could run (08:06) his mental models and find any valid weaknesses in an idea in supposedly about 60 seconds Beyond Buffett though his family in the book tells the story of a man who had this wonderful way of knowing what really mattered in life and communicating that to others in short stories which actually in a way is is also another example of his Brilliance Munger is the type of guy who might spend a weekend PL through textbooks to become an expert on some topic but he recognized that you can't just dump that information on people they're obviously (08:36) not going to retain it in the same way so he leans into storytelling as a more digestible way to pass on that wisdom and he tell these stories or even just Expressions that would contain a world of wisdom in them and at his core it really connects back to his belief that you should simplify an idea as much as possible but no simpler one of his best sayings is to avoid going through life like a one like man in an ass kicking contest another one of those memorable Expressions is a simple framework for investing which he calls sit on your ass (09:08) investing where you make a few High conviction decisions in your lifetime as an investor and let time and compounding do the rest his comments on inverted thinking also always stand out to people he loved to say all I want to know is where I'm going to die so I'll never go there it's a tongue and cheek thing but at the same time he actually uses that same inverted logic elsewhere instead of trying to imagine what the perfect company looks like it's easier to think about everything you don't want to see (09:35) from a company you invest in and then rule them out on that basis and in a more profound way you might imagine the types of friends and family relationships you'd want to have on your deathbed and think about how you can lead a life that will get you to that end result Munger credits many of the good choices he made to Simply focusing on not what not to do his usual examples include avoiding laziness not feeling like a victim rejecting intense ideology and trying to never work for people that you don't like or (10:05) respect with a background in law in meteorology Charlie comes into learning about investing without any of the same biases that somebody educated in classical economics or business might have and he decides that none of the mainstream approaches to thinking about investing really captured well so he decides to painstakingly build his own philosophy on investing and pulls from a bunch of disciplines uses ideas like evolution ution from biology breaking point in physics the necessity of redundancies and backups for engineering (10:37) power of compounding from mathematics and all these key insights from other intellectual domains form a spiderweb of overlapping and complimentary ideas for him as an investor Buffett called Charlie the Abominable no man in their relationship do you see Charlie as primarily playing that role as Devil's Advocate at birkshire I think trusted Devil's Advocate is a great thing to have who we should all be so lucky to have a Charlie Munger in our lives a friend who is almost like an extended version of yourself with just enough differences in (11:12) perspective to tell you when you're wrong and by telling Warren when he was wrong he was also helping shape birkshire as we've talked about in our last few episodes together Buffett pivoted his approach to investing in cigar but stocks to more enduring and high quality businesses and Charlie just deserves the credit for that I I also think another thing worth mentioning is that by jointly running the show at birkshire they kept each other grounded if it's just one person at the top of birkshire especially after all the (11:41) success that the company has had it would be pretty easy to imagine that you would slowly Drift from your values and that humility would fade away and you really start to believe the hype about yourself but together I think they kept those impulses in check it's a lot easier to commit to a life of frugality and virtue when your closest partner is doing it alongside with you so Charlie definitely took pleasure in being a a cold dose of rationality for Buffett's optimism in a 2007 speech he said it didn't make me unhappy to anticipate (12:15) trouble all the time and be ready to perform adequately if trouble came the timing here is pretty remarkable right over the next two years him and Warren would capitalize in a very big way from the trouble caused by the great financial crisis being a pessimist does have its cost though at the Burkshire shareholder meeting 5 years ago Charlie lamented the fact that they had an opportunity to invest in Google early on and completely missed it so having a friend like Charlie will help you dodge a lot of bullets and the price you pay is that (12:47) occasionally you miss out on some big Winners like Google which is a steep opportunity cost but you're not going to get wiped out either when it comes to investing across a lifetime what really matters is not getting wiped out and you need a good bit of skepticism about any decision you make to avoid betting it all on something really exciting but also really risky I can imagine how many bullets Charlie probably helped Warren Dodge up until his death last year he was still bringing his signature skepticism to all of today's most (13:15) popular buzzwords from crypto to Ai and and mem stocks I don't think Burkshire would have been rushing to invest in AI without charlyy but it's refreshing to hear someone show a little doubt about the next big thing he actually says something along the lines of good oldfashioned intelligence still works just fine so he doesn't see the need to go around building artificial intelligence maybe that'll age terribly but there are also going to be a ton of people who lose everything chasing the AI hype and as a birkar shareholder you (13:44) can rest assured that you won't be at risk of having that happen to you Munger tells us that if we want to be smarter we have to just keep asking why and so in that Spirit why is it necessary to be a multi-disciplinary thinker why is it so important to pull from very different fields into investing I think that to some extent this is because economics and finance are soft Sciences which begs the question of okay what actually is a soft science we all Loosely know what that means but the distinction is that there (14:15) are no Universal constants in economics there is no law of gravity you you could say that laws of supply and demand are the closest thing we have to that but even supply and demand are plagued with exceptions in theory demand for a good is supposed to go down as the price Rises except if it's a luxury good where in that case a higher price creates ex exclusivity that people crave so economics is more of a study of human nature than it is a study of objective laws of the universe and humans are complicated and paradoxical (14:49) so there's boundaries to what we can know with any real certainty and one of the biggest problems among economists and on Wall Street is the belief that we can model every relevant variable to an investment or an economic system in these models they treat the so-called risk-free rate like a law of physics everything from corporate borrowing rates to stock valuations are connected to it yet there isn't really a universal definition of what the risk-free rate actually is some people will tell you to look at the three-month us treasury bond (15:20) yield and others will use 10year treasury bonds as a reference point depending on the context of the valuation that they're trying to do but the point is that this is subjective not objective and even worse I think is that the whole thing is a misnomer I don't want to be you know accused of of spreading fear about the sky falling but if your fundamental assumption in economics and finance is that there's no credit risk from investing in US Government debt then I think you've made a big mistake ask your Uber driver or (15:48) anyone on the street what they think of that idea I don't think any regular person would feel like that makes any sense it it's really classic case of smart people being too smart for their own good on the one hand a business school Professor will lecture about all the uncertainties of business and the shortcomings of financial markets and then they'll conclude that these Excel models are the best we can do still but I would be surprised if Charlie Munger ever built a spreadsheet of any meaningful complexity in his life (16:17) and you certainly don't hear him talking about risk-free rates instead he looked outside of the status quo of the investment world for more durable insights one of them being from psychology and the importance of remembering that a above all you are the easiest person to fool our subconscious is is constantly trying to fool us and if you don't have a Mastery of basic psychological principles you're going to be helpless to resist those biases or if you don't have an appreciation for how physics and biology and chemistry combin (16:46) together to shape the world around us you might delude yourself into believing that you can build a 50 tab Excel model that would track every imaginable economic variable for valuing a company the idea of being a multi-is disciplinary thinker in some ways is really about being well-rounded enough to avoid the pitfalls of people who spend their whole lives narrowly focused on one thing the type of person with a hammer who thinks every problem looks like a nail Charlie uses the term Elementary worldly wisdom to describe the (17:18) multi-disciplinary thinking that you just described the point being that we need some general knowledge about the world to be great stock Pickers you can't really know anything you can't really know anything if you just Jam your brain full of isolated facts but you need to have theories about the world that connect those bits of information together in more usable ways that's a takeaway at least from one of his more famous talks in the book which is appropriately called a lesson on Elementary worldly wisdom is there (17:46) anything else about Charlie's ideas on worldly wisdom that you would want our audience to know about he does a great job showing off the mental models he uses for understanding the world and one of them ties into the benefits of scale for businesses we've all heard about economies of scale and Manufacturing but scale has other benefits too large brands have an informational Advantage with potential customers if you're traveling in some obscure corner of the world and you're craving a refreshing (18:16) drink you'll probably pay a bit extra for Coca-Cola over the local brand and that's because you know what to expect it's going to be of decent quality with the local soda you have no idea whether it's any good brands spend tons of money hammering this into your subconscious so that in a split second your brain decides on Coca-Cola over the local choice there's also an element of social proof here we love to take mental shortcuts to reduce the processing power our brain uses and the best way to do (18:46) that is to just look around and see what others are doing even if you've never had a Coca-Cola before you've seen countless people drinking it so if you're faced with the choice between Coca-Cola and some no-name brand you're still going to drink Coca-Cola because other people think it's good at the same time Brands get so entrenched it's easy to imagine that with economies of scale and brand recognition and so social proof and a bunch of other factors working together it must be impossible (19:14) to dislodge the biggest companies but we know that's also not true if I if it were a man from Bentonville Arkansas would never have scaled a single small town retail store into the Empire that is Walmart today a more recent example people will be familiar with is what Netflix did to Blockbuster right so if your mental model is that the biggest companies will always stay big that's obviously wrong too scale gives advantages but it doesn't guarantee anything long term I wanted to go a little deeper on (19:46) how Munger thought about competition there's a really interesting section in his talk on worldly wisdom where Monger takes a stab at explaining why some Industries are so much more profitable than others what takeaways did you have from that part the book mature Industries tend to consolidate down to the five or six biggest and most dominant names but they're huge disparities across Industries and the returns they deliver one example being the airlines where a few companies control the industry and the industry (20:15) itself has completely revolutionized the world so you would think that they've created incredible wealth yet these companies have actually destroyed more shareholder wealth on average than they've actually created and the question is why are some Industries better than others why do the biggest Airlines make so much money while say big consumer goods companies making cereal and snacks do so much better there's no exact explanation but Munger thinks the difference lies partially in whether you're operating in a commodity (20:44) business airline travel is a means to an end in intermediary and Airline seats are pretty fungible after a basic threshold of quality most people don't really care if they're flying jet blue or Delta as long as they get get to where they need to go when it comes to cereal though this is something you might eat every day for breakfast it's a part of your routine and whether maybe due to just taste preferences or good marketing or both you're probably going to be really loyal to your brand of cereal or yogurt or what in input your (21:15) favorite breakfast food and and anything else is just going to taste off so branding and how interchangeable your product is are big factors but there's also just an element of Randomness that Munger describes sometimes firms will reach a happy set quo where they all have a healthy chunk of market share and no one is trying to undercut the others to make a few extra dollars other times companies get trapped into constantly undercutting the competition if you cut your prices 10% then your competitor has to cut theirs and you get in this kind (21:46) of tit fortat cycle and in those cases if there are huge gains to productivity very little of that may Ripple through to shareholders if Airlines get more efficient for example it it's probably the Flyers who are going to win out with cheaper airline tickets as the airlines cost cut against each other and not the shareholders who who see those benefits another way to say that is depending on the competitive dynamics of the industry productivity gains can either Ur primarily to customers or to shareholders on the flip side of that (22:19) you can imagine captive C customers are those who who get extorted the most if you're hungry at an airport you've only got a few decent food options right and it's much easier for these these businesses to collude together to keep prices High same thing at at sporting events what's really confusing is that a company operating in one industry may earn incredible profits in a certain Geographic market and earn almost nothing somewhere else I'm just making this up as an example but imagine a (22:47) situation where serial companies us operations have avoided a spiral of price cuts and enjoy pretty solid Returns on Capital invested whereas in India to gain market share over local Brands they get trapped into this cost undercutting or Price undercutting cycle where they have to sell their products at just above Break Even if you really zoom in there's a lot of game theory where competitors are each feeling out how how willing the other is to undercut them and where they're willing to do that understanding as many of these (23:18) structural factors as possible shaping the world around us from the power of branding to game theory is really at the core of his discussion on having worldly wisdom the power of incentives is also worth mentioning too there's a really compelling story on how FedEx struggled for years with Logistics delays especially at night when they tried to bring planes to Central locations to move packages from one Warehouse to another eventually they realized that the incentives were all wrong they had been paying night shift workers on an (23:49) hourly basis so they were incentivized to actually drag out their shifts to earn more money as soon as they started paying workers a flat fee for their entire night shift the backlog cleared up I wanted to move along and get into one of monger's more legendary talks which is the psychology of human misjudgment tell me about what stood out to you there in that part of the book it's a long one he kicks It Off by talking about how ants have about 10 pre-programmed responses to stimuli ingrained into their nervous systems but (24:24) beyond that they're really seriously limited to respond to the world around them on a different scale he thinks it's the same for humans when you see your brain as a computer with hard limits on how much information it can process it's probably less surprising to hear that we're addicted to these psychological shortcuts that reduce the processing power that's needed so if you take confirmation bias it's a lot easier to keep believing what you already think is true and find information validating (24:52) those beliefs than it is to constantly question and rethink your beliefs about the world the animal who spends too much time in the jungle Paralyzed by thought makes for pretty easy prey it also just uses a ton of energy which makes survival harder in a different way it's coded into our brains to reduce critical thought and conserve energy most of the time conserving energy is good and your pre-programmed responses to the world around you keep you alive but when doing something like investing it takes a (25:22) tremendous amount of effort to overcome this wiring and to think critically about the decisions that you're trying to make Monger goes through something like 24 psychological tendencies that distort our perceptions of reality some of them are pretty intuitive like the first one which he calls the reward and Punishment tendency the idea being that people are drawn to act in their own self-interest and shape their beliefs accordingly most business owners don't think companies should pay more in taxes and most government bureaucrats think (25:53) the world would be better off with more government we all rationalize our beliefs so that our world view bends to our own interests another interesting one is the inconsistency avoidance tendency we have a lot of trouble accepting ideas that conflict with our existing beliefs so as we get older our minds accumulate large Holdings of predetermined ideas about the world and it gets harder and harder to unlearn those past conclusions constant education is the only way we can exercise our brains to destroy wrong (26:25) ideas that are resistant to this change in some ways the inconsistency bias can actually be good if you're devoted to upholding a certain identity that can change your behavior for the better if you see yourself as a father or husband that may change how you act you probably don't want to do things that violate that self-perception of what it means to be a good parent or partner how do you get started with Stock Investing I've put together a course to teach you everything I wish I knew when I first (26:54) started investing in stocks let's start at the beginning and ask what is a stock let's zoom on in into what it's actually like to buy a stock a few options are Charles Schwab TD amerit trade Ali E Trade fortunately you won't have to necessarily calculate all of these taxes yourself I'll outline a few main ones to be aware of throughout your lifetime investing Journey as Warren Buffett says your best investment is yourself there's nothing that compares to it by the end you'll be savier about Stock Investing (27:27) in personal finance than the V majority of people even if you're not a total beginner I'm confident you'll get a lot out of the principles and strategies I outline which we'll build on throughout link to the course is available in the description below see you there so I I don't want to go through all the Tendencies but they range from discussing how stress and envy pushes toward making worse decisions to our inclination toward just being optimistic generally and munger's usual witty way (27:58) he says to just look at the number of people smiling while buying lottery tickets as evidence for how we tend to be overly optimistic about the future we also tend to hold ourselves in a higher regard than others everyone thinks they're an above average driver so there's a ton of these biases and really funny anecdotes from Charlie on how to understand them just to wrap it up though I I think it's worth mentioning the LA laaloa effect which is this phenomenon born out of several of these psychological biases multiplying (28:28) together to to distort your judgment so confirmation bias and maybe social proof combined together to delude you into rationalizing that perhaps smoking cigarettes isn't so bad or too much trust and authority and stress push you to finance a car that you can't afford maybe at a terrible interest rate if you go and look through at the moments in your life where your judgment was the worst you can probably identify three or four or maybe even five of Charlie's 24 biases impacting you at that point in (28:58) time and these biases aren't linear two biases acting on you at once may have more than twice the impact of one bias if you really understand these biases and especially the LA of paloa effect you can at least stand the chance of realizing when your thinking is clouded and try to avoid making any big decisions but even then that's still hard to do the world's come a long way in appreciating Charlie's wisdom about how our own psychology can be a limiting Factor especially when it comes to investing I wanted to hear your thoughts (29:32) on how relevant Charlie's focus on psychology is today Munger was way ahead of his time in talking about how psychology is critical to the behavioral side of investing but behavioral Finance is a well-known discipline today and most people get schooled pretty quickly about it when studying investing a few decades ago it was common to embrace utilitarian economic Concepts and the idea of the rational consumer and you'll certainly still find economics classes talking about this kind of stuff but Economist (30:06) imagine that we all went through life acting rationally doing what's in our best interest and in reality people are just completely paradoxical we might pay extra for a product not because it's any better but because we saw some beautiful model promoting it or maybe they'll invest in a company because they like the charismatic people running it not because it's actually a better investment on any kind of fundamental basis this stuff is better understood more broadly today partially thanks to (30:33) Charlie but really because of the Nobel Prize winner Daniel Conan and his colleague Amos tki who spent much of their lives conducting experiments showing how irrational people really are in their decision-making and there's also Dr Robert Chini too of course who captured many of these same biases in his book influence so there have been a lot of key people in recent decades who have advanced knowledge about ology still it's hard to argue that most people really deeply understand these biases it's easy for them to go through (31:06) one year and out the other if you don't wake up every single day thinking about psychological biases and resisting them those insights will quickly fade from your memory Charlie is a case study on how doing that can change your life for the better by almost religiously studying psychology he avoided a lot of the Judgment errors and that compounded in his his favor across a lifetime much of monger's talks in the book are devoted to finding academia's shortcomings in economics finance and psychology in a 2003 talk Monger (31:43) suggests that academic economics could improve by focusing more on microeconomics over macroeconomics what can we learn from focusing more on the microeconomic standpoint the micro is the macro right obvious say being a little factious but the macro is just a collection of micro activities so we can use microeconomics as a tool for better understanding the world around us Munger actually says studying macroeconomics without enough attention to micro is like trying to learn about medicine with no knowledge of biology microeconomics is very much (32:17) based in Psychology and Charlie gives us a lesson in inverted thinking here too rather than trying to understand the world from the top down flip things around and go from the bottom up he he uses this example to show that by finding macro insights through starting at the micro level by looking at berkshire's opening of a new furniture store in Kansas City which from day one is this instant success and almost always has a huge and almost always has its 3200 parking spot lot filled up with customers to explore why it has been so (32:55) popular you can begin by considering whether it's likely a low price or high price store obviously if it's popular at this scale in a small City it probably sells reasonably priced Furniture so we can quickly rule out that its success is due to being some fancy luxury brand and with low prices and a large storefront it's pretty safe to assume that it offers a wide selection of items as well and then the more macro question is how come no one had already opened up a furniture store like this in Kansas City (33:26) before birkshire let start that one over and Charlie's explanation is that to offer a variety of low pric furniture and a big store requires a ton of capital and sophisticated operations supporting that capital investment so there was a significant opportunity for someone with the right expertise and enough Capital which birkshire had the macro tick way is that while smaller scale economic opportunities face more competition there are much fewer players who can make bigger Capital Investments so large L unfilled needs like a city craving (34:01) affordable furniture options can persist for longer than you might think until someone as big as birkshire comes along and recognizes the opportunity to understand generally why businesses succeed Munger suggests that they probably have a number of success factors that combine together this could be an extreme focus on maximizing or minimizing some economic variables like Costco does by maximizing cost savings for Shoppers and within that you'll find a commitment to efficiency or customer service or quality depending on the (34:33) business and obviously with the furniture store those success factors related to affordability uh and variety of products offered Toyota is also a pretty good example of combining success factors together minimal costs high quality the best businesses are those as Charlie says with an extreme of good performance across many of these factors and we would probably all be better off thinking about the micro more in this way you can understand how your community works or how a single business works but if you're trying to map (35:05) together how the entire world works from the top down you're going to get LED astray and you're at least going to leave out some important variables from that same talk on how economics as an academic discipline falls short Charlie brings up this idea of fzl talk to me about what he means by f fzl fzl is his abbreviated way of saying the functional equivalent of embezzlement that's what it stands for which is a way of calling out the middlemen that extract wealth from society he kind of mocks economists I (35:42) think by suggesting that embezzlement would in theory be good for the economy because the person stealing money would have more to spend while those with lots of money being stolen from them might not realize what they had lost and would keep spending as if they had more money so any boost obviously from embezzlement kind of cancels out eventually because it's temporary the the fraud is eventually detected but when it comes to fzl the fraud is never detected the main example is investment managers as a society we pay billions of dollars each (36:15) year and unnecessary fees to investment man managers who are usually adding no value for their services and are therefore at least as Charlie would say functionally embezzling money it was actually a pretty good quote I I can read directly from Charlie on this where he says as long as the market keeps going up the person who's wasting all this money doesn't feel it because he's looking at these steadily Rising values and to the guy who is getting the money for investment advice the money looks earned income when he's really selling (36:46) detriment for money surely the functional equivalent of undisclosed embezzlement clearly Munger doesn't hold most mutual fund managers in higher guard but from Bank to Insurance to Investment Management you can probably come up with tons of examples of people extracting fees from society well not really adding much value for their work I think you can certainly find examples outside of financial services too and this isn't the kind of thing you'll probably read about in your average economics textbook but you can imagine (37:18) for yourself how fzl impacts Society Sean before we wrap up was there any last pieces of wisdom that you wanted to share with us that Charlie M wrote about that really touched you yeah there are so many great excerpts from the book that I wish we could touch on there were some really interesting ways that he ties psychology and morality together as a society if we Design Systems that are easily exploited Charlie feels it's not necessarily the thieves who should be held accountable for theft but those who designed a (37:52) system that could be so easily exploited and you get to a belief like that when you deeply appreciate how strong psychological biases are if it's easy to steal and the odds of being caught are low because of our intrinsic self-interest people will inevitably steal and then stealing becomes a habit and as others see PE people stealing the social proof principle they'll probably come around to stealing too and if you run a business with poor oversight where you actually make it easy to get stolen from you're creating a moral hazard in a (38:24) way that makes Society worse off by enabling people to steal and then rationalize that behavior the same goes for the government in creating programs that are easy to cheat he talks about how a poorly designed workers compensation system in California had resulted in fraudulent injury claims that became systemic it was just completely normal for people to submit false reports and that became built into the cost of doing business and naturally business went elsewhere to states that didn't have laws that were so easy to (38:56) exploit or didn't have a culture where this type of theft was normalized so on the one hand Charlie puts a lot of emphasis on personal accountability yet he recognizes that poorly organized systems for coordinating activity in government or business can set people up for failure he actually argues that the development of Double Entry bookkeeping and cash registers have created considerable intangible value for society by boosting honesty in business businesses work better now than they used to and instead of enabling people (39:29) to commit fraud they more often instill order and reliability which isn't something that you can easily quantify but is still valuable Society is better off for these well-designed systems that promote accountability the opposite would be something like the wild west so Charlie is a man of nuance and I I think his life is a testament to the importance of understanding the Nuance while also seeing the big picture at the same time a lot of people get lost focusing on one or the other I I'd love to end with one (40:04) of my favorite quotes from Charlie he says you don't have to be brilliant only a little bit wiser than the other guys on average for a long time that's a good one and a good place to put a pin in it for today this has been a lot of fun just talking books with you poor Charlie Almanac is one of my favorites that there's just so much to be garnered and I just really appreciate your time taking the time to share with us today so yeah thanks and I appreciate the uh effort today thanks for having me the the point being if you do what (40:36) everyone else is doing as a CEO you can at best deliver average returns to truly stand out you have to Zig when others zag and The Outsider CEOs did that beating the broader Market average by something like over 20 times over their ten years and beating out their peers by an average of over seven times
Poor Charlie's Almanack: Investing Wisdom From Charlie Munger w/ Shawn O’Malley (MI361)
Summary
Transcript
(00:00) when it comes to investing across a lifetime what really matters is not getting wiped out and you need a good bit of skepticism about any decision you make to avoid betting at all on something really exciting but also really risky I can imagine how many bullets Charlie probably helped Warren Dodge up until his death last year he was still bringing his signature skepticism to all of today's most popular buzzwords from crypto to Ai and and meme stocks [Music] happy to have you back we are getting into our final episode which is this has (00:36) been a lot of fun we've we covered the essays of Warren Buffett we've covered Benjamin Graham and the intelligent investor we did The Outsiders last week we're going to cover what I would say is like the third key figure of this kind of legendary value investing Trifecta which is Charlie Munger and my first question I wanted to get into is talking about Benjamin Franklin Franklin was this huge inspir for Monger in his life and and many see Munger having carried this torch of Franklin's Legacy who's (01:07) famous obviously for many things but the book's title poor Charlie's Almanac is inspired by Ben Franklin's annual publication that he put out called Poor Richards Almanac so I wanted to start just talking a little bit about Ben Franklin and how he ties into the Charlie Munger story Charlie is synonymous with Warren Buffett and Brookshire Hathaway which sort of implicitly connects him to Ben Graham who as we know is considered the father of value investing but when you look at Charlie's life individually that he's so (01:37) much more than Warren Buffett he's so much more than Warren Buffett's partner or even a value investor he was an incredibly clear thinker across a number of domains from physics to psychology to law and even meteorology so Charlie packs an intellectual punch in a way that very much distinguishes him from his longtime partner Warren Buffett who tends to stray less far from economics and finance you might even say that similar to how Bing Graham shaped Buffett's views on investing the writings of Benjamin Franklin had a (02:11) similarly profound impact on Munger Charlie famously loved to read biographies and he saw this as a way to make friends with the imminent dead so I don't think it's as much of a stretch as it may seem to say that Franklin was like a mentor to Munger despite there obviously being a 200-year Gap in their lifetimes and if you're not familiar with Ben Franklin's life that would probably sound pretty strange but Frank Franklin is one of History's great multi-disciplinary thinkers he was a philosopher politician writer and (02:43) prolific inventor we could probably spend an hour just going through all of his accomplishments in detail what's relevant is that for 25 years starting in 1732 he wrote an annual publication called Poor Richard's Almanac using the pseudonym poor Richard and it would have had a ton of useful information for people at the time but it's best remembered today for the life advice that it offered for two centuries Franklin had the last word on how to live a virtuous life until Charlie came along and really pushed forward a lot of (03:14) that advice to new generations of people and ask even more of them in some ways what makes them similar is that they're both self-taught neither were happy to defer to experts in other subject matters they wanted to be proficient in every noteworthy intellectual domain they were both pull yourself up by your bootstraps guys and much of this book is Munger teaching people how he did that how he built up a collection of mental models and Frameworks from a lifetime of ravenous reading and how he used that toward making better decisions in (03:46) business and in life so speaking of Monger mentors Warren wasn't the first member of the Buffett family that Munger knew I wanted to hear a little bit about the origin story of Buffett and Munger and their relationship yeah it's funny as you said munger's first contact with the buffets was with Warren's grandfather Charlie was a few years older than Warren and worked at Warren's grandfather's grocery store as a teenager so the two grew up around each other but didn't really cross paths until a few years later and (04:17) during this time like he did with his whole life really Charlie read every book he could get his hands on for for Christmas his gifts would be a handful of books and sometimes by the end of the night he would have already finished several of those books and at 19 he enlists in the Army Air Corp during World War II and studies meteorology and thermodynamics from there with some help from a family friend he gets into Harvard Law despite not having a bachelor's degree and finishes near the top of his class after that he moves to (04:47) Southern California where he begins practicing law until after a few years he realizes that it's just not stimulating enough for him and that he can't really earn the kind of wealth he envisions for himself working as a lawyer especially at that time where I don't think it was as profitable to to work in law so on the side he he picks up investing in real estate and stocks and crafts his Exit Plan from the law firm and then at a dinner party in Omaha that's where the stars align Charlie remembers Warren from his days working (05:17) in the grocery store and Warren remembers Charlie because when Warren was raising funds for his own investment partnership someone mentioned that they'd happily invest with him because he reminded them so much of Charlie Munger and as The Story Goes the two just hit it off talking about very obscure stock picks and they dominate the dinner party with their conversation but obviously they keep in touch after that for many years and and they frequently send each other long letters or would talk on the phone for hours and (05:46) during this period the two were both running their own separate investment funds and everyone probably knows that Warren Buffett did very well but Munger also held his own as a stock picker in his Partnerships first 11 years he earned 20% per year and then bounce back from a bare Market in 1974 to deliver 19. (06:07) 8% compounded annual returns over those 14 years before he decided to follow Warren's lead and and close up his investment fund and that's around the time when Warren invites Charlie to join him in running birkshire we we all know the story after that but what's interesting to me is how Munger never wanted the credit for burshire Success when asked to provide some comments for the book Munger really tried to understate his role I I have a quote I'm just going to read it verbatim he says I think there's some mythology in this (06:36) idea that I've been a great enlightener of Warren he hasn't needed much Enlightenment I frankly think I get more credit than I deserve it is true that Warren had a touch of brain block while working under Ben Graham and making a ton of money it's hard to switch from something that's worked so well but if Charlie had never lived the Buffett record would still be pretty much what it is I think part of what makes Charlie and Warren so appealing to people is just this their natural chemistry that (07:04) they have it's it's just fun to watch the two of them riff with each other at at a shareholder meeting Warren supplied this folksy optimism and Charlie was just the sidekick with this super dry humor what would what else would you say makes Munger so special as a person what would you say made him tick Warren is probably as qualified as anyone to paint a picture as to who Charlie Munger was and I'll just relay what he writes in the book he calls Charlie a grandmas of preparation patience discipline and (07:35) objectivity and so being a great investor in a way is a natural byproduct of the carefully organized and focused approach to life that Charlie had he had something like a hundred mental models he kept in his head to explain human behavior and biases and he became extraordinarily efficient at working through all those models for understanding the world Buffett gives him probably the best praise any investor could give to another by saying that no man in the world could analyze a deal faster than Charlie he could run (08:06) his mental models and find any valid weaknesses in an idea in supposedly about 60 seconds Beyond Buffett though his family in the book tells the story of a man who had this wonderful way of knowing what really mattered in life and communicating that to others in short stories which actually in a way is is also another example of his Brilliance Munger is the type of guy who might spend a weekend PL through textbooks to become an expert on some topic but he recognized that you can't just dump that information on people they're obviously (08:36) not going to retain it in the same way so he leans into storytelling as a more digestible way to pass on that wisdom and he tell these stories or even just Expressions that would contain a world of wisdom in them and at his core it really connects back to his belief that you should simplify an idea as much as possible but no simpler one of his best sayings is to avoid going through life like a one like man in an ass kicking contest another one of those memorable Expressions is a simple framework for investing which he calls sit on your ass (09:08) investing where you make a few High conviction decisions in your lifetime as an investor and let time and compounding do the rest his comments on inverted thinking also always stand out to people he loved to say all I want to know is where I'm going to die so I'll never go there it's a tongue and cheek thing but at the same time he actually uses that same inverted logic elsewhere instead of trying to imagine what the perfect company looks like it's easier to think about everything you don't want to see (09:35) from a company you invest in and then rule them out on that basis and in a more profound way you might imagine the types of friends and family relationships you'd want to have on your deathbed and think about how you can lead a life that will get you to that end result Munger credits many of the good choices he made to Simply focusing on not what not to do his usual examples include avoiding laziness not feeling like a victim rejecting intense ideology and trying to never work for people that you don't like or (10:05) respect with a background in law in meteorology Charlie comes into learning about investing without any of the same biases that somebody educated in classical economics or business might have and he decides that none of the mainstream approaches to thinking about investing really captured well so he decides to painstakingly build his own philosophy on investing and pulls from a bunch of disciplines uses ideas like evolution ution from biology breaking point in physics the necessity of redundancies and backups for engineering (10:37) power of compounding from mathematics and all these key insights from other intellectual domains form a spiderweb of overlapping and complimentary ideas for him as an investor Buffett called Charlie the Abominable no man in their relationship do you see Charlie as primarily playing that role as Devil's Advocate at birkshire I think trusted Devil's Advocate is a great thing to have who we should all be so lucky to have a Charlie Munger in our lives a friend who is almost like an extended version of yourself with just enough differences in (11:12) perspective to tell you when you're wrong and by telling Warren when he was wrong he was also helping shape birkshire as we've talked about in our last few episodes together Buffett pivoted his approach to investing in cigar but stocks to more enduring and high quality businesses and Charlie just deserves the credit for that I I also think another thing worth mentioning is that by jointly running the show at birkshire they kept each other grounded if it's just one person at the top of birkshire especially after all the (11:41) success that the company has had it would be pretty easy to imagine that you would slowly Drift from your values and that humility would fade away and you really start to believe the hype about yourself but together I think they kept those impulses in check it's a lot easier to commit to a life of frugality and virtue when your closest partner is doing it alongside with you so Charlie definitely took pleasure in being a a cold dose of rationality for Buffett's optimism in a 2007 speech he said it didn't make me unhappy to anticipate (12:15) trouble all the time and be ready to perform adequately if trouble came the timing here is pretty remarkable right over the next two years him and Warren would capitalize in a very big way from the trouble caused by the great financial crisis being a pessimist does have its cost though at the Burkshire shareholder meeting 5 years ago Charlie lamented the fact that they had an opportunity to invest in Google early on and completely missed it so having a friend like Charlie will help you dodge a lot of bullets and the price you pay is that (12:47) occasionally you miss out on some big Winners like Google which is a steep opportunity cost but you're not going to get wiped out either when it comes to investing across a lifetime what really matters is not getting wiped out and you need a good bit of skepticism about any decision you make to avoid betting it all on something really exciting but also really risky I can imagine how many bullets Charlie probably helped Warren Dodge up until his death last year he was still bringing his signature skepticism to all of today's most (13:15) popular buzzwords from crypto to Ai and and mem stocks I don't think Burkshire would have been rushing to invest in AI without charlyy but it's refreshing to hear someone show a little doubt about the next big thing he actually says something along the lines of good oldfashioned intelligence still works just fine so he doesn't see the need to go around building artificial intelligence maybe that'll age terribly but there are also going to be a ton of people who lose everything chasing the AI hype and as a birkar shareholder you (13:44) can rest assured that you won't be at risk of having that happen to you Munger tells us that if we want to be smarter we have to just keep asking why and so in that Spirit why is it necessary to be a multi-disciplinary thinker why is it so important to pull from very different fields into investing I think that to some extent this is because economics and finance are soft Sciences which begs the question of okay what actually is a soft science we all Loosely know what that means but the distinction is that there (14:15) are no Universal constants in economics there is no law of gravity you you could say that laws of supply and demand are the closest thing we have to that but even supply and demand are plagued with exceptions in theory demand for a good is supposed to go down as the price Rises except if it's a luxury good where in that case a higher price creates ex exclusivity that people crave so economics is more of a study of human nature than it is a study of objective laws of the universe and humans are complicated and paradoxical (14:49) so there's boundaries to what we can know with any real certainty and one of the biggest problems among economists and on Wall Street is the belief that we can model every relevant variable to an investment or an economic system in these models they treat the so-called risk-free rate like a law of physics everything from corporate borrowing rates to stock valuations are connected to it yet there isn't really a universal definition of what the risk-free rate actually is some people will tell you to look at the three-month us treasury bond (15:20) yield and others will use 10year treasury bonds as a reference point depending on the context of the valuation that they're trying to do but the point is that this is subjective not objective and even worse I think is that the whole thing is a misnomer I don't want to be you know accused of of spreading fear about the sky falling but if your fundamental assumption in economics and finance is that there's no credit risk from investing in US Government debt then I think you've made a big mistake ask your Uber driver or (15:48) anyone on the street what they think of that idea I don't think any regular person would feel like that makes any sense it it's really classic case of smart people being too smart for their own good on the one hand a business school Professor will lecture about all the uncertainties of business and the shortcomings of financial markets and then they'll conclude that these Excel models are the best we can do still but I would be surprised if Charlie Munger ever built a spreadsheet of any meaningful complexity in his life (16:17) and you certainly don't hear him talking about risk-free rates instead he looked outside of the status quo of the investment world for more durable insights one of them being from psychology and the importance of remembering that a above all you are the easiest person to fool our subconscious is is constantly trying to fool us and if you don't have a Mastery of basic psychological principles you're going to be helpless to resist those biases or if you don't have an appreciation for how physics and biology and chemistry combin (16:46) together to shape the world around us you might delude yourself into believing that you can build a 50 tab Excel model that would track every imaginable economic variable for valuing a company the idea of being a multi-is disciplinary thinker in some ways is really about being well-rounded enough to avoid the pitfalls of people who spend their whole lives narrowly focused on one thing the type of person with a hammer who thinks every problem looks like a nail Charlie uses the term Elementary worldly wisdom to describe the (17:18) multi-disciplinary thinking that you just described the point being that we need some general knowledge about the world to be great stock Pickers you can't really know anything you can't really know anything if you just Jam your brain full of isolated facts but you need to have theories about the world that connect those bits of information together in more usable ways that's a takeaway at least from one of his more famous talks in the book which is appropriately called a lesson on Elementary worldly wisdom is there (17:46) anything else about Charlie's ideas on worldly wisdom that you would want our audience to know about he does a great job showing off the mental models he uses for understanding the world and one of them ties into the benefits of scale for businesses we've all heard about economies of scale and Manufacturing but scale has other benefits too large brands have an informational Advantage with potential customers if you're traveling in some obscure corner of the world and you're craving a refreshing (18:16) drink you'll probably pay a bit extra for Coca-Cola over the local brand and that's because you know what to expect it's going to be of decent quality with the local soda you have no idea whether it's any good brands spend tons of money hammering this into your subconscious so that in a split second your brain decides on Coca-Cola over the local choice there's also an element of social proof here we love to take mental shortcuts to reduce the processing power our brain uses and the best way to do (18:46) that is to just look around and see what others are doing even if you've never had a Coca-Cola before you've seen countless people drinking it so if you're faced with the choice between Coca-Cola and some no-name brand you're still going to drink Coca-Cola because other people think it's good at the same time Brands get so entrenched it's easy to imagine that with economies of scale and brand recognition and so social proof and a bunch of other factors working together it must be impossible (19:14) to dislodge the biggest companies but we know that's also not true if I if it were a man from Bentonville Arkansas would never have scaled a single small town retail store into the Empire that is Walmart today a more recent example people will be familiar with is what Netflix did to Blockbuster right so if your mental model is that the biggest companies will always stay big that's obviously wrong too scale gives advantages but it doesn't guarantee anything long term I wanted to go a little deeper on (19:46) how Munger thought about competition there's a really interesting section in his talk on worldly wisdom where Monger takes a stab at explaining why some Industries are so much more profitable than others what takeaways did you have from that part the book mature Industries tend to consolidate down to the five or six biggest and most dominant names but they're huge disparities across Industries and the returns they deliver one example being the airlines where a few companies control the industry and the industry (20:15) itself has completely revolutionized the world so you would think that they've created incredible wealth yet these companies have actually destroyed more shareholder wealth on average than they've actually created and the question is why are some Industries better than others why do the biggest Airlines make so much money while say big consumer goods companies making cereal and snacks do so much better there's no exact explanation but Munger thinks the difference lies partially in whether you're operating in a commodity (20:44) business airline travel is a means to an end in intermediary and Airline seats are pretty fungible after a basic threshold of quality most people don't really care if they're flying jet blue or Delta as long as they get get to where they need to go when it comes to cereal though this is something you might eat every day for breakfast it's a part of your routine and whether maybe due to just taste preferences or good marketing or both you're probably going to be really loyal to your brand of cereal or yogurt or what in input your (21:15) favorite breakfast food and and anything else is just going to taste off so branding and how interchangeable your product is are big factors but there's also just an element of Randomness that Munger describes sometimes firms will reach a happy set quo where they all have a healthy chunk of market share and no one is trying to undercut the others to make a few extra dollars other times companies get trapped into constantly undercutting the competition if you cut your prices 10% then your competitor has to cut theirs and you get in this kind (21:46) of tit fortat cycle and in those cases if there are huge gains to productivity very little of that may Ripple through to shareholders if Airlines get more efficient for example it it's probably the Flyers who are going to win out with cheaper airline tickets as the airlines cost cut against each other and not the shareholders who who see those benefits another way to say that is depending on the competitive dynamics of the industry productivity gains can either Ur primarily to customers or to shareholders on the flip side of that (22:19) you can imagine captive C customers are those who who get extorted the most if you're hungry at an airport you've only got a few decent food options right and it's much easier for these these businesses to collude together to keep prices High same thing at at sporting events what's really confusing is that a company operating in one industry may earn incredible profits in a certain Geographic market and earn almost nothing somewhere else I'm just making this up as an example but imagine a (22:47) situation where serial companies us operations have avoided a spiral of price cuts and enjoy pretty solid Returns on Capital invested whereas in India to gain market share over local Brands they get trapped into this cost undercutting or Price undercutting cycle where they have to sell their products at just above Break Even if you really zoom in there's a lot of game theory where competitors are each feeling out how how willing the other is to undercut them and where they're willing to do that understanding as many of these (23:18) structural factors as possible shaping the world around us from the power of branding to game theory is really at the core of his discussion on having worldly wisdom the power of incentives is also worth mentioning too there's a really compelling story on how FedEx struggled for years with Logistics delays especially at night when they tried to bring planes to Central locations to move packages from one Warehouse to another eventually they realized that the incentives were all wrong they had been paying night shift workers on an (23:49) hourly basis so they were incentivized to actually drag out their shifts to earn more money as soon as they started paying workers a flat fee for their entire night shift the backlog cleared up I wanted to move along and get into one of monger's more legendary talks which is the psychology of human misjudgment tell me about what stood out to you there in that part of the book it's a long one he kicks It Off by talking about how ants have about 10 pre-programmed responses to stimuli ingrained into their nervous systems but (24:24) beyond that they're really seriously limited to respond to the world around them on a different scale he thinks it's the same for humans when you see your brain as a computer with hard limits on how much information it can process it's probably less surprising to hear that we're addicted to these psychological shortcuts that reduce the processing power that's needed so if you take confirmation bias it's a lot easier to keep believing what you already think is true and find information validating (24:52) those beliefs than it is to constantly question and rethink your beliefs about the world the animal who spends too much time in the jungle Paralyzed by thought makes for pretty easy prey it also just uses a ton of energy which makes survival harder in a different way it's coded into our brains to reduce critical thought and conserve energy most of the time conserving energy is good and your pre-programmed responses to the world around you keep you alive but when doing something like investing it takes a (25:22) tremendous amount of effort to overcome this wiring and to think critically about the decisions that you're trying to make Monger goes through something like 24 psychological tendencies that distort our perceptions of reality some of them are pretty intuitive like the first one which he calls the reward and Punishment tendency the idea being that people are drawn to act in their own self-interest and shape their beliefs accordingly most business owners don't think companies should pay more in taxes and most government bureaucrats think (25:53) the world would be better off with more government we all rationalize our beliefs so that our world view bends to our own interests another interesting one is the inconsistency avoidance tendency we have a lot of trouble accepting ideas that conflict with our existing beliefs so as we get older our minds accumulate large Holdings of predetermined ideas about the world and it gets harder and harder to unlearn those past conclusions constant education is the only way we can exercise our brains to destroy wrong (26:25) ideas that are resistant to this change in some ways the inconsistency bias can actually be good if you're devoted to upholding a certain identity that can change your behavior for the better if you see yourself as a father or husband that may change how you act you probably don't want to do things that violate that self-perception of what it means to be a good parent or partner how do you get started with Stock Investing I've put together a course to teach you everything I wish I knew when I first (26:54) started investing in stocks let's start at the beginning and ask what is a stock let's zoom on in into what it's actually like to buy a stock a few options are Charles Schwab TD amerit trade Ali E Trade fortunately you won't have to necessarily calculate all of these taxes yourself I'll outline a few main ones to be aware of throughout your lifetime investing Journey as Warren Buffett says your best investment is yourself there's nothing that compares to it by the end you'll be savier about Stock Investing (27:27) in personal finance than the V majority of people even if you're not a total beginner I'm confident you'll get a lot out of the principles and strategies I outline which we'll build on throughout link to the course is available in the description below see you there so I I don't want to go through all the Tendencies but they range from discussing how stress and envy pushes toward making worse decisions to our inclination toward just being optimistic generally and munger's usual witty way (27:58) he says to just look at the number of people smiling while buying lottery tickets as evidence for how we tend to be overly optimistic about the future we also tend to hold ourselves in a higher regard than others everyone thinks they're an above average driver so there's a ton of these biases and really funny anecdotes from Charlie on how to understand them just to wrap it up though I I think it's worth mentioning the LA laaloa effect which is this phenomenon born out of several of these psychological biases multiplying (28:28) together to to distort your judgment so confirmation bias and maybe social proof combined together to delude you into rationalizing that perhaps smoking cigarettes isn't so bad or too much trust and authority and stress push you to finance a car that you can't afford maybe at a terrible interest rate if you go and look through at the moments in your life where your judgment was the worst you can probably identify three or four or maybe even five of Charlie's 24 biases impacting you at that point in (28:58) time and these biases aren't linear two biases acting on you at once may have more than twice the impact of one bias if you really understand these biases and especially the LA of paloa effect you can at least stand the chance of realizing when your thinking is clouded and try to avoid making any big decisions but even then that's still hard to do the world's come a long way in appreciating Charlie's wisdom about how our own psychology can be a limiting Factor especially when it comes to investing I wanted to hear your thoughts (29:32) on how relevant Charlie's focus on psychology is today Munger was way ahead of his time in talking about how psychology is critical to the behavioral side of investing but behavioral Finance is a well-known discipline today and most people get schooled pretty quickly about it when studying investing a few decades ago it was common to embrace utilitarian economic Concepts and the idea of the rational consumer and you'll certainly still find economics classes talking about this kind of stuff but Economist (30:06) imagine that we all went through life acting rationally doing what's in our best interest and in reality people are just completely paradoxical we might pay extra for a product not because it's any better but because we saw some beautiful model promoting it or maybe they'll invest in a company because they like the charismatic people running it not because it's actually a better investment on any kind of fundamental basis this stuff is better understood more broadly today partially thanks to (30:33) Charlie but really because of the Nobel Prize winner Daniel Conan and his colleague Amos tki who spent much of their lives conducting experiments showing how irrational people really are in their decision-making and there's also Dr Robert Chini too of course who captured many of these same biases in his book influence so there have been a lot of key people in recent decades who have advanced knowledge about ology still it's hard to argue that most people really deeply understand these biases it's easy for them to go through (31:06) one year and out the other if you don't wake up every single day thinking about psychological biases and resisting them those insights will quickly fade from your memory Charlie is a case study on how doing that can change your life for the better by almost religiously studying psychology he avoided a lot of the Judgment errors and that compounded in his his favor across a lifetime much of monger's talks in the book are devoted to finding academia's shortcomings in economics finance and psychology in a 2003 talk Monger (31:43) suggests that academic economics could improve by focusing more on microeconomics over macroeconomics what can we learn from focusing more on the microeconomic standpoint the micro is the macro right obvious say being a little factious but the macro is just a collection of micro activities so we can use microeconomics as a tool for better understanding the world around us Munger actually says studying macroeconomics without enough attention to micro is like trying to learn about medicine with no knowledge of biology microeconomics is very much (32:17) based in Psychology and Charlie gives us a lesson in inverted thinking here too rather than trying to understand the world from the top down flip things around and go from the bottom up he he uses this example to show that by finding macro insights through starting at the micro level by looking at berkshire's opening of a new furniture store in Kansas City which from day one is this instant success and almost always has a huge and almost always has its 3200 parking spot lot filled up with customers to explore why it has been so (32:55) popular you can begin by considering whether it's likely a low price or high price store obviously if it's popular at this scale in a small City it probably sells reasonably priced Furniture so we can quickly rule out that its success is due to being some fancy luxury brand and with low prices and a large storefront it's pretty safe to assume that it offers a wide selection of items as well and then the more macro question is how come no one had already opened up a furniture store like this in Kansas City (33:26) before birkshire let start that one over and Charlie's explanation is that to offer a variety of low pric furniture and a big store requires a ton of capital and sophisticated operations supporting that capital investment so there was a significant opportunity for someone with the right expertise and enough Capital which birkshire had the macro tick way is that while smaller scale economic opportunities face more competition there are much fewer players who can make bigger Capital Investments so large L unfilled needs like a city craving (34:01) affordable furniture options can persist for longer than you might think until someone as big as birkshire comes along and recognizes the opportunity to understand generally why businesses succeed Munger suggests that they probably have a number of success factors that combine together this could be an extreme focus on maximizing or minimizing some economic variables like Costco does by maximizing cost savings for Shoppers and within that you'll find a commitment to efficiency or customer service or quality depending on the (34:33) business and obviously with the furniture store those success factors related to affordability uh and variety of products offered Toyota is also a pretty good example of combining success factors together minimal costs high quality the best businesses are those as Charlie says with an extreme of good performance across many of these factors and we would probably all be better off thinking about the micro more in this way you can understand how your community works or how a single business works but if you're trying to map (35:05) together how the entire world works from the top down you're going to get LED astray and you're at least going to leave out some important variables from that same talk on how economics as an academic discipline falls short Charlie brings up this idea of fzl talk to me about what he means by f fzl fzl is his abbreviated way of saying the functional equivalent of embezzlement that's what it stands for which is a way of calling out the middlemen that extract wealth from society he kind of mocks economists I (35:42) think by suggesting that embezzlement would in theory be good for the economy because the person stealing money would have more to spend while those with lots of money being stolen from them might not realize what they had lost and would keep spending as if they had more money so any boost obviously from embezzlement kind of cancels out eventually because it's temporary the the fraud is eventually detected but when it comes to fzl the fraud is never detected the main example is investment managers as a society we pay billions of dollars each (36:15) year and unnecessary fees to investment man managers who are usually adding no value for their services and are therefore at least as Charlie would say functionally embezzling money it was actually a pretty good quote I I can read directly from Charlie on this where he says as long as the market keeps going up the person who's wasting all this money doesn't feel it because he's looking at these steadily Rising values and to the guy who is getting the money for investment advice the money looks earned income when he's really selling (36:46) detriment for money surely the functional equivalent of undisclosed embezzlement clearly Munger doesn't hold most mutual fund managers in higher guard but from Bank to Insurance to Investment Management you can probably come up with tons of examples of people extracting fees from society well not really adding much value for their work I think you can certainly find examples outside of financial services too and this isn't the kind of thing you'll probably read about in your average economics textbook but you can imagine (37:18) for yourself how fzl impacts Society Sean before we wrap up was there any last pieces of wisdom that you wanted to share with us that Charlie M wrote about that really touched you yeah there are so many great excerpts from the book that I wish we could touch on there were some really interesting ways that he ties psychology and morality together as a society if we Design Systems that are easily exploited Charlie feels it's not necessarily the thieves who should be held accountable for theft but those who designed a (37:52) system that could be so easily exploited and you get to a belief like that when you deeply appreciate how strong psychological biases are if it's easy to steal and the odds of being caught are low because of our intrinsic self-interest people will inevitably steal and then stealing becomes a habit and as others see PE people stealing the social proof principle they'll probably come around to stealing too and if you run a business with poor oversight where you actually make it easy to get stolen from you're creating a moral hazard in a (38:24) way that makes Society worse off by enabling people to steal and then rationalize that behavior the same goes for the government in creating programs that are easy to cheat he talks about how a poorly designed workers compensation system in California had resulted in fraudulent injury claims that became systemic it was just completely normal for people to submit false reports and that became built into the cost of doing business and naturally business went elsewhere to states that didn't have laws that were so easy to (38:56) exploit or didn't have a culture where this type of theft was normalized so on the one hand Charlie puts a lot of emphasis on personal accountability yet he recognizes that poorly organized systems for coordinating activity in government or business can set people up for failure he actually argues that the development of Double Entry bookkeeping and cash registers have created considerable intangible value for society by boosting honesty in business businesses work better now than they used to and instead of enabling people (39:29) to commit fraud they more often instill order and reliability which isn't something that you can easily quantify but is still valuable Society is better off for these well-designed systems that promote accountability the opposite would be something like the wild west so Charlie is a man of nuance and I I think his life is a testament to the importance of understanding the Nuance while also seeing the big picture at the same time a lot of people get lost focusing on one or the other I I'd love to end with one (40:04) of my favorite quotes from Charlie he says you don't have to be brilliant only a little bit wiser than the other guys on average for a long time that's a good one and a good place to put a pin in it for today this has been a lot of fun just talking books with you poor Charlie Almanac is one of my favorites that there's just so much to be garnered and I just really appreciate your time taking the time to share with us today so yeah thanks and I appreciate the uh effort today thanks for having me the the point being if you do what (40:36) everyone else is doing as a CEO you can at best deliver average returns to truly stand out you have to Zig when others zag and The Outsider CEOs did that beating the broader Market average by something like over 20 times over their ten years and beating out their peers by an average of over seven times