An advertisement for a company called Warner & Swasey used to say:
“The company that needs a new machine tool, and hasn’t bought it, is already paying for it.”
Charlie Munger, the vice chairman of Berkshire Hathaway and one of the most successful investors in the world,
says that this applies to thinking tools as well:
The man who is in need of a new thinking tool, but hasn’t yet acquired it, is already paying for it.
It’s extraordinary how resistant some people are to learning anything.
Warren Buffett has said the following about Charlie Munger:
“Charlie has the best 30-second mind in the world.
He goes from A to Z in one move.
He sees the essence of everything before you can even finish the sentence.”
How does he do it?
Through observing reality and running it against his mental models.
In this series of videos, we’ll cover some of the most important models which Charlie Munger uses,
which he has talked about publicly.
These mental models have helped Munger to conquer the stock market,
but they are so diverse that they have applications within many other areas too.
For example, they have allowed Munger to be a successful Chairman at a large hospital,
and they have allowed him to overcome devastating personal losses.
A few weeks ago, I asked you guys which topics you are most interested in besides investing.
In this series you’ll learn how the models can be applied within these areas to some extent too.
Maybe you aren’t interested in awesome rewards or avoiding a lot of misery or being more
able to serve everything you love in life.
If that’s your attitude, then don’t pay any attention to what you’re about to learn in this series
– because you are already on the right track.
Let’s begin!
This is the Swedish Investor, bringing you the best tips and tools for reaching financial freedom
through stock market investing.
We’ll start out with something of a meta-model, and I think it makes sense to do this first
before getting into any of the specifics.
The first mental model of Charlie Munger is:
The Swiss Army Knife Approach
If you are going to learn how to drive a car, you understand that it isn’t enough to only
learn how to use the accelerator.
In fact, only learning how to use the accelerator when driving a car, pretty much guarantees
that you will hurt yourself and others.
I’m walking here!
Before you can become a successful driver, you need to learn about multiple things
– how to use the steering wheel, the brakes, the rear-view mirror, the gearshift, how to interpret road signs,
how to honk on people when they do stupid things that you would never do
because you are an above-average driver, etc.
Now, the world is of course a lot more complex than a car.
If you want to become a successful thinker in such a world, you need to learn about
many different ideas.
Charlie Munger calls this “worldly wisdom”.
He estimates that he’s got about 100 mental models in his head which he uses regularly.
No need to get overwhelmed though, because he also says that: “You don’t have to know everything.
A few of the really big ideas carry most of the freight.”
By definition, this is going to be a game which you play with multiple techniques
and multiple models, and a lot of experience is very helpful.
Here’s another analogy.
“To the man with a hammer, every problem looks like a nail.”
Remember what was said in the intro?
If you need a new tool but you haven’t yet bought it, you are already paying for it.
The man with the hammer is paying for his ignorance because he will torture reality
to fit the only model that he knows about, and of course this is a stupid way of behaving
because it is not the world itself that will change, it’s the man with the hammer who will fall on his face.
You’d rather be like the man with a Swiss Army knife.
The man with a Swiss Army knife realizes that different problems require different tools,
and he is equipped and ready for applying the best tool for the given situation.
“The man with the hammer syndrome” is a classic problem within departments at many corporations.
Ever thought that the marketing department cares too much about marketing and too little
about the quality of the product?
Well, it is even worse within different departments in academia.
People are either too afraid or too proud to cross boundaries and pick up important
ideas from other fields than their own.
One of the reasons why even really smart people come up with really silly concepts is because
they do not consider other subject areas.
Such is the case of, for example, one of the winners of the Nobel Price in Economics
who came up with the Efficient Market Hypothesis.
He thought too much of his own economics model of the rational man and too little about important
ideas from psychology and human misjudgement, ideas that we will learn more about later in this series.
There’s something to be said for always remembering the obvious, within many different
areas of research, instead of understanding the exotic within a single area.
Many of these obviously useful tools come from those who are no longer with us.
Make Friends With the Eminent Dead
I would say that you’re not restricted to
living people when picking your mentors.
Some of the very best people are dead.
The Population Reference Bureau estimates that about 117 billion people have ever walked this earth.
Among these, a little more than half were born in the last 2000 years.
Some 30 billion since the inception of the printing press.
Most of the people who ever walked the earth are already dead, but a few of the most intelligent
ones are still with us in their written words.
Sir Isaac Newton, one of the most influential people who has ever lived, has an unusual
inscription on his grave: “Here lies that which was mortal of Isaac Newton.”
Charlie Munger has been referred to as a “book with legs” by his close ones, and it would
be quite the understatement to say that he enjoys reading a lot.
Reading is an essential part of gaining worldly wisdom.
As the famous author Mark Twain has said: “The man who doesn’t read good books has
no advantage over the man who can’t read them.”
To be honest I do not think that the medium through which you gain the information matters too much,
it was just that books used to be the information that travelled the best.
But, however you choose to do it, whether it is through books, podcasts or YouTube videos,
you should always strive to master the best things that other people already have figured out.
Don’t try to dream it up yourself, no one is that smart.
Charlie Munger is famous for taking this one step further than most people do.
He says that you should even make friends with the people that you are trying to learn from.
I think that this can be interpreted in two ways:
1. It is useful to study the most successful people within a few fields so intensively
that you start to regard them as your friends, just like, you know, a fan can obsess over a band.
2. You want to learn as much as possible about where you mentors come from, in addition to
their teachings, because that will make it so that you’ll understand their biases
In order to make this series of videos, I sure made Charlie Munger my friend.
If you ask my girlfriend if she is jealous of someone right now, it wouldn’t be some
other girl at the gym or something like that, it would be Charlie Munger.
The person who Carlie Munger himself made into his best friend was Benjamin Franklin,
who was one of America’s presi … founding fathers.
The name of one of the most extensive works about Munger – Poor Charlie’s Almanack
– comes from Benjamin Franklin’s yearly booklet called Poor Richard’s Almanack,
where he wrote under a pseudonym.
Munger even calls the authors of some of the books that he’s read “fathers in a different sense.”
Be careful with who you choose to learn from.
The first rule to gain worldly wisdom is to just consume a lot of information,
but the second rule is important too.
You must consider who you are getting that information from.
Even if you study the stock market for many hundreds of hours, you could be stuck in one place
if you are only trying to learn from TikTok traders.
Sir Isaac Newton again: “If I have seen further it is by standing on the shoulders of Giants.”
He didn’t say “standing on the shoulders of midgets”.
Invert, Always Invert
When I talked about this in a previous video,
I explained this mental model as a way of reverse engineering things, but I must admit
that I no longer think that that’s the best interpretation of the model.
Here follows a better explanation.
In one of Charlie Munger’s most famous talks, a commencement speech which he gave at Harvard
back in 1986, he said that there are three things in life that, guaranteed, will make it a misery:
- Ingesting chemicals in order to alter you mood
- Envy; and - Resentment
Look at that subtle off-white colouring.
The tasteful thickness of it.
Oh, my God.
It even has a watermark.
Moreover, he said that there are four things that definitely will make you a failure:
- Being unreliable
- Learning everything yourself
- Giving up on your first, second or third try; and
- Ignoring the advice of inverting
The last point is a meta-idea, and it is what this mental model is all about.
Oftentimes in life, it’s very difficult to come up with ideas of how to create X.
What is much simpler is to understand how to create non-Xs, and then try to avoid that.
How do you have a successful marriage?
A tough question perhaps.
Let’s try this one instead.
How do you ruin a marriage?
Well, you can cheat, that’s one way to ruin most marriages.
You can be totally unreliable and absent, that’s another way.
Run into a lot of financial problems.
Being abusive.
Using substances.
If you can just avoid these at all costs, things will probably work out at least half-decent.
Charlie Munger is famous for saying:
“All I want to know is where I’m going to die, so I’ll never go there.”
It’s similar within the field of investing, avoiding harm is hugely important.
Anything times 0 is 0, no matter how good of a performance that you put up before that.
Talking about himself and Warren Buffett, Charlie has said that: “It is remarkable
how much long-term advantage people like us have gotten by trying to be consistently not stupid
instead of trying to be very intelligent.”
Part of the reason why this approach is so effective is because there’s oftentimes
more to lose on the downside than there is to gain on the upside.
Returning to the discussions about relationships (which, again, I certainly do not claim to be an expert on)
it is very difficult to make up for cheating on someone.
Similarly, if you die, it doesn’t matter how wonderful the day before you died was,
you’ve lost it all, it’s game over.
A person that does not think about what can harm him, and try consistently to avoid that,
both in business and in life, at one point or another, will surely end up like the mouse
who said, “let me out of the trap, I’ve decided I don’t want the cheese”.
Compounding
The main topic on this channel is of course, investing
and the most important model that you must know about within this field,
may well be compounding, which is a concept from the field of mathematics.
The value of an investment portfolio tends to grow exponentially, and you’ll only see
diminishing returns once you hit really big numbers.
Benjamin Franklin said that: “Money is of a prolific generating nature.
Money can beget money, and its offspring can beget more.”
A snowball is often used as an analogy here, and for good reasons.
When you start out on your investment career, you probably do not have too much money.
If you put $1,000 in the stock market and you choose investments really well,
you may be able to make some 30% per year, but this is still just $300.
To grow that snowball of wealth at the start of your investment career, you must add outside capital.
You will have to accumulate this capital by becoming a successful entrepreneur
or by climbing the corporate ladder.
After a while, that snowball hits a slope.
This is where the yearly increase in value of your portfolio and its dividends contribute
with a significant portion to your total yearly income.
Say somewhere around $100,000.
You certainly shouldn’t stop adding snow from the outside yet, but from here it is getting easier.
The third phase is where the snowball really takes off, and your yearly investment income
is now larger than your working income is.
This might happen around $1 million, and now you do not have to add outside snow anymore,
if you don’t want to.
You could focus your attention on steering that snowball into even steeper slopes.
The model of compounding is so powerful that if you just leave it be, you are pretty much
guaranteed to get rich over time.
You can ruin it’s benefits if you want to though, and through inversion, the key here
is to focus on what to avoid.
For compounding to work best you want to avoid: - Management fees – by investing yourself
or buying index funds
- Brokerage fees – by not trading too frequently;
and - Unnecessary taxes
– by holding on to securities
to avoid short-term capital gains brackets
Crush Your Cherished Beliefs
Let’s return to the man with the hammer.
This guy probably loves his hammer.
Perhaps he inherited it from his father, who inherited it from his father,
it’s basically an heirloom.
Maybe he used this hammer successfully when he got his first promotion
or created his first business.
Even when faced with a screw and there’s a screwdriver in plain sign,
the man with the hammer will have a difficult time to switch out his old tool.
My precious!
There are many psychological tendencies which cause us to hold on to old ideas for dear life
and we’ll review many of them later in this series, but for now,
let’s just realize that you do not want to be like the man with the hammer.
Charlie Munger says that: “One should recognize reality even when one doesn’t like it, indeed,
especially when one doesn’t like it.”
You do not want to be like the people that the economist John Kenneth Galbraith describes:
“Faced with the choice between changing one’s mind and proving there is no need to do so,
almost everyone gets busy on the proof.”
Neither do you want to be like the people that the famous author Philip Wylie observed:
“You couldn’t squeeze a dime between what they already know and what they’ll never learn.”
You should look at yourself as a man with a toolbox, and every new idea as a tool that
can be added to your box or that can replace a tool that is already in it
if it could make you more effective in the future.
Don’t be sad just because you recognize that you may have been using an old and rusty tool for a while,
be happy that you’ve found a new one!
Charles Darwin was famous for saying that you must strive to crush your most cherished beliefs.
He had a peculiar method for this.
Any time he found evidence that contradicted his previous convictions, he wrote it down
in the first 30 minutes, because he knew that otherwise, the mind would reject the evidence
for cherished beliefs.
If even someone like Charles Darwin contributed much of his success to such self-criticism,
I think that it could be important for someone like you and me to consider too.
We always say it isn’t the learning that’s so hard.
It’s the unlearning.
And with that, “I have nothing to add” for the first five mental models of Charlie Munger.
Let’s hope that we can crush a few of our cherished beliefs with the coming videos in this series.
Cheers guys!