Investment strategy: the investment strategy that was messed up at the foundation cannot be corrected later

Chances are you’ve seen these equations before:
  1. 1.01365= 37.8, and
  2. 0.99365 = 0.03

This means that if we improve something by 1% every day for a year, we will improve it 37 times; and if we make something 1% worse every day for a year, we will make it 97% worse.

Yes, it makes us appreciate the impact of capitalization. But there is a nuance. If we extrapolate this equation to a decade, we see how small decisions made at the beginning have a disproportionate impact – for example, changing things up a little each day from the status quo – on the end results. If we mess things up at the foundation, it’s incredibly hard to fix them later.

Peter Thiel writes in his book
Zero to One that every great business is unique, but there are some things every business needs to do right from the start. And the Thiel Principle has a solid historical foundation – whether we consider the cosmos, countries or corporations.

In the first microseconds of its existence, the universe expanded by a factor of 10
30 (a million billion billion billion times). The state that the laws of physics defined at that time still dictates our daily lives.

This principle also applies to countries. The United States held the Constitutional Convention more than two centuries ago and the Constituent Assembly debates in India ended about six decades ago.

Questions such as how the federal structure (center versus state power) should emerge, how much representation the US Congress (and the Lok Sabha) should have, or why the Senate (and the Rajya Sabha) should follow a different representation structure were discussed.

After ratifying the Bill of Rights in 1791, the United States amended the constitution only 17 times. There have only been 105 constitutional amendments so far in India.

Nevertheless, these initial debates have largely settled the way our countries are currently governed. Today, our discussions are limited to smaller issues.

Now let’s move on to business. When starting something new, among the first things to decide is choosing a co-founder. Thiel says that “choosing a co-founder is like getting married, and founder conflict is just as ugly as divorce.”

I would go further and suggest that early employees define the eventual culture of the company. How we will treat customers, partners and each other is defined at the start and exponentially amplifies as the business grows. It takes a colossal effort to change the culture of a company once it reaches a certain age, if that’s possible.

Finally, I want to extend this argument to investment strategy. As we continue to learn, the initial investment philosophy we develop becomes deeply rooted in the psyche over time.

In times of acute stress, we often unconsciously fall back into this strategy. If our strategy has proven successful over the formative years, it becomes natural to rely on it before you even know it.

We barely stop and actively become aware of our belief system. If this strategy is faulty (faulty strategies can always yield great results in short timeframes), achievement is very difficult to achieve; changing the belief system requires us to go against our guts. This is not an easy feat to accomplish.

Imagine this happening to one of your portfolio companies: a negative event occurs, the stock has halved from recent highs, analysts have turned negative, and market rumors suggest that a large holder has started selling. People know you own this name and are now following you on social media.

Maybe you manage money professionally and your investors call you asking what the hell were you thinking buying that trash?

The decisions we make in those moments define us. If we panic now, it will show up in our annual returns. If we make a habit of panicking, it will reflect on how our returns turn out over a decade.

The same principle applies to our investment strategy. Human minds are wired to store information in simplified formats. We vividly remember the details of our journey from point A to point B today.

But after two or three decades, we may remember point A and, perhaps, point B, but the details of the journey start to blur. Our memories oversimplify the trip for having been in a straight line, when in reality there were several twists and turns involved.

In fact, anything of any importance never happens in a straight line; everything follows cycles. Evolution happened in cycles (topic for a different column), different species dominated each other in cycles, and regime changes also followed cycles.

Given this, we must be acutely aware, from the outset, of what we choose to believe.

If we strengthen our investment approach just to fit the current narrative (only buy consumer-facing companies, or never buy a cyclical company, or buy a good company at any price, etc. .), such a strategy will become a rigid element of our strategy. decision-making, and it will be extremely difficult for us to change, even when presented with concrete evidence to the contrary.

(The author, Jigar Mistry, is co-founder and director, Buoyant Capital. Opinions are his own)

Comments are closed.