The challenge of changing one's investing model

Models are hard to build.  Not only that, if your model is built upon poor foundations, it may be forever doomed to be a poor performer, and no amount of tweaking will ever resolve this.  Emotionally, it can be very difficult to throw out an entire model and start again.

This is the biggest difficulty I encounter when trying to explain value investing to people.  It contradicts so much of what they know about investing that it initially very difficult to accept.  This difficultly is worsened by the amount of "experience" that the person has.





Because they have been burnt before, they have created a very solid rule in they model, and so in trying to convince them that the action that lead to that rule being created was wrong, they must collapse that entire section of their model.  Unfortunately, this means collapse the rule that they had learned.  This rule is so strongly etched into their model that the cannot accept it's removal.

An example of this is the "stop loss" rule.  Traders swear by it.  There are also many traders that tried to ignore this rule, got burnt, and so "will never make that mistake again", and always implement stop losses going forward.

Stop losses are not part of my model.  I think they are silly.  If I have decided that a company X is a great company, and that it is cheap at price X, then it is a better buy at (X-1).  I certainly wouldn't sell the shares I bought at X because the price went down.  If anything, I would be likely to buy more.

 In general, traders have formulated many of their rules because they have  not selected quality companies.  Imagine trying to create a set of rules for investing where you were restricted in investing in companies that you knew were going to go belly up in the next  10 years.  I've no doubt in that case that stop losses would be part of my model.  But no such restrictions exist.  Even better, you can restrict your selection of companies to only those that you believe will significantly grow in the next 10 years.

So, if you cannot accept the arguments of this blog, it may be because you created an investing model based on your experience of investing in risky, or at least average, businesses, rather than great businesses.  And by risky, I don't mean "share price volatility" risky, I mean "business model" risky.  That is, the likelihood that the business will grow and be profitable, rather than go belly up.