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Jeremy Grantham’s latest quarterly letter to GMO clients came out on Friday.His letters are loaded with brilliant investment wisdom, expert analysis on the economy, and prescient calls on the markets.
The first section of the three-part letter is titled Investment Advice From Your Uncle Polonius. Grantham channels this Shakespearean character to communicate 10 investing insights that should be taken very seriously.
Click Here For Investment Advice From Uncle Polonius >
Here’s an explanatory footnote from the GMO letter:
Polonius, a character in Hamlet, a verbose, self-important advisor to the King, was clearly intended to be a real loser, but curiously in the end Shakespeare couldn’t resist making most of his ponderous advice actually useful and memorable. His famous speech to his son Laertes who is embarking on a dangerous sea voyage to France (from Denmark) is reproduced as an Appendix. (Hamlet makes genocidal if rather unintentional war on the Polonius family, accounting for Laertes, his sister Ophelia, and poor Polonius himself: a clean sweep.)
We pulled the key quotes and digested the lengthy sections of his letter for you. But we recommend reading the full-length version on GMO’s website.
'The market is gloriously inefficient and wanders far from fair price but eventually, after breaking your heart and your patience (and, for professionals, those of their clients too), it will go back to fair value. Your task is to survive until that happens.'
'If you borrow to invest, it will interfere with your survivability. Unleveraged portfolios cannot be stopped out, leveraged portfolios can. Leverage reduces the investor's critical asset: patience.'
'Several different investments, the more the merrier, will give your portfolio resilience, the ability to withstand shocks. Clearly, the more investments you have and the more different they are, the more likely you are to survive those critical periods when your big bets move against you.'
'If you've waited and waited some more until finally a very cheap market appears, this will be your margin of safety. Now all you have to do is withstand the pain as the very good investment becomes exceptional. Individual stocks usually recover, entire markets always do. If you've followed the previous rules, you will outlast the bad news.'
'By far the biggest problem for professionals in investing is dealing with career and business risk: protecting your own job as an agent. The second curse of professional investing is over-management caused by the need to be seen to be busy, to be earning your keep. The individual is far better-positioned to wait patiently for the right pitch while paying no regard to what others are doing, which is almost impossible for professionals.'
'...But optimism comes with a downside, especially for investors: optimists don't like to hear bad news...Here again it is easier for an individual to stay cool than it is for a professional who is surrounded by hot news all day long (and sometimes irate clients too). Not easy, but easier.'
'You can make bigger bets than professionals can when extreme opportunities present themselves because, for them, the biggest risk that comes from temporary setbacks -- extreme loss of clients and business -- does not exist for you. So, if the numbers tell you it's a real outlier of a mispriced market, grit your teeth and go for it.'
'Watching neighbours get rich at the end of a bubble while you sit it out patiently is pure torture. The best way to resist is to do your own simple measurements of value, or find a reliable source (and check their calculations from time to time)...Ignore especially short-term news: the ebb and flow of economic and political news is irrelevant. Stock values are based on their entire future value of dividends and earnings going out many decades into the future. Shorter-term economic dips have no appreciable long-term effect on individual companies, let alone the broad asset classes that you should concentrate on. Leave those complexities to the professionals, who will on average lose money trying to decipher them.'
'GMO predicts asset class returns in a simple and apparently robust way: we assume profit margins and price earnings ratios will move back to long-term average in 7 years from whatever level they are today. We have done this since 1994 and have completed 40 quarterly forecasts. (We started with 10-year forecasts and moved to 7 years more recently.) Well, we have won all 40 in that every one of them has been usefully above random and some have been, well, surprisingly accurate. These estimates are not about nuances or PhDs.'
'To be at all effective investing as an individual, it is utterly imperative that you know your limitations as well as your strengths and weaknesses. If you can be patient and ignore the crowd, you will likely win. But to imagine you can, and to then adopt a flawed approach that allows you to be seduced or intimidated by the crowd into jumping in late or getting out early is to guarantee a pure disaster. You must know your pain and patience thresholds accurately and not play over your head. If you cannot resist temptation, you absolutely MUST NOT manage your own money.'
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