How do I educate myself as an investor?
This is one of the most common questions I get from readers, and it’s easily the most important. I’ll share some of my favorite investing books in a moment. But first things first.
There is no substitute for experience. As in absolutely none. Having your own money at risk has a way of making you focus in a way that reading a book never can.
But the problem with learning purely by experience is that it can be an expensive education when real money is involved. The market is a stern schoolmistress and one that is not averse to proverbially rapping you on the knuckles with a yardstick when you err.
You’re going to make beginner’s mistakes. It’s inevitable. But by educating yourself beforehand, you can hopefully keep the financial pain to a minimum.
As a start, I strongly recommend you read the Financial Times (“FT”) daily and Barron’s weekly. I consider these the absolute bare minimum of reading material for any aspiring investor. The FT gives coverage of the global financial markets that no other newspaper—not even the Wall Street Journal—can come close to matching. If you want to know what is driving the any stock, bond, currency or commodity market anywhere in the world, the FT is your source. I’m a little old school and still receive a paper copy at the office every morning, but the FT has a great website and excellent phone and iPad apps as well.
Barron’s is more centered on the American markets, but I consider the two hours I spend every Saturday morning reading it cover to cover to be some of the most productive hours of my week. In an age in which it is easy to get paralyzed with too much information, Barron’s condenses a week’s worth of data into a tidy, digestible package. There may be days when I have to skip my morning FT reading due to time constraints. But I never fail to read my weekly Barron’s.
Moving on to books, this is where the real education begins. Here is a shortlist of books I would recommend to any newbie to investing. And for that matter, I would recommend them to grizzled market veterans as well.
First on the list is David Darst’s The Art of Asset Allocation. This is distinctly not a “how to trade stocks” book. As its name implies, it is a guide to building a comprehensive portfolio from the top down. It is important to remember that, while a savvy stock pick can make you wealthy, studies have shown that more than 90% of your portfolio returns are explained by asset allocation.
I recommend that most families hire a good financial planner to help them make sense of their financial lives and to build portfolios that are appropriate given their ages, risk tolerances and special situations. But if you are the “do it yourself” sort, Darst’s book can effectively replace your financial planner if you use it correctly.
And by the way, if you do employ a financial planner, and they have not read The Art of Asset Allocation, you should fire them. Immediately.
Next on the list is James P. O’Shaughnessy’s What Works on Wall Street, a veritable encyclopedia of back-tested investing strategies.
Frankly, I don’t know how O’Shaughnessy finds the time to do this kind of number crunching. What Works is over 600 pages of well-researched quantitative strategies. There is no filler here; it’s all meat. He has sliced and diced the market in every conceivable way it can be sliced and diced: value, growth, return on equity, dividend yield, buyback yield—and the list goes on.
What I like most about O’Shaughnessy is his absolute lack of bias or dogmatism. He does not approach the investing process with any preconceived notions, but rather lets the data do the talking. And talk it most certainly does.
How do you use this book? As you gradually develop your own style, whether it be value, growth, or something more exotic, I recommend you use some of O’Shaughnessy’s screens as “fishing ponds.” You don’t necessarily need to buy every stock in the screen, but you can use the screen as a great starting point for further research.
I am a value investor by temperament, so no list would be complete without Benjamim Graham’s classic The Intelligent Investor. Think of this as a less dense, more digestible version of Graham and Dodd’s Security Analysis. (Security Analysis is considered the “Bible of value investing,” but it can be a little dense for a beginning investor.)
Benjamin Graham is considered the father of value investing and was Warren Buffett’s mentor. Without Graham, there would have never been a Buffett, or at least not the investing legend we know and love.
Many of Graham’s specific tricks of the trade (such as buying stocks selling for less than their net current assets) are no longer usable (or at least rarely usable) in this era of instant data. Graham had a massive informational advantage over his competition in that, in the 1930s when he really began to make a name for himself, he was the only investor with the patience and skills to pick apart a balance sheet or to calculate ratios. Now this can be done instantly via stock screeners, making it next to impossible to “discover” a value stock the same way that Graham would have.
Still, if you want to learn how to think as a value investor, then there is immeasurable value in reading the original text of one of the truly great minds in market history.
For a modern take on value investing, I highly recommend Mohnish Pabrai’s The Dhandho Investor. I’m a particular fan of this book because I consider it accessible and non-technical; it’s something that doesn’t require a Harvard MBA to read and understand.
Pabrai draws inspiration from the Patels—a group of ethnic Indians who immigrated to the United States in the 1970s after being kicked out of Uganda by dictator Idi Amin—and despite starting with little capital or formal education, managed to quickly build a hotel empire in their new homeland using a simple “coin toss” rule of thumb in making investment decisions:
- Heads, I win.
- Tails, I don’t lose much.
Low risk and high potential returns: it’s the closest thing to nirvana an investor can hope to find.
Pabrai has no special metric or formula, though he does have a basic investment criteria that he shares. If you style yourself as a value investor, like investing against the grain, and like the idea of rolling up your sleeves and doing some real research, then The Dhandho Investor is a book you should keep on your desk.
If you love market lore, then you will love The Reminiscences of a Stock Operator, a fictionalized biography of legendary speculator Jesse Livermore written by Edwin Lefevre. In addition to being wildly entertaining—it reads like a novel dictated in the first person—it’s full of “street smarts” that are as applicable today as when the book was first written in 1923.
I should be clear here: Reminiscences is not a “how to” book. There are no formulas or screens to run. But there is definitely a lot of trader wisdom, such as the counterintuitive maxim of not averaging down by buying dips but rather “averaging up” into a rising market. The best advice in the entire book—and something I recommend every investor of every stripe remember—is “Don’t argue with the tape… Quite while the quitting is good.”
But a close second concerns acting on “hot” stock tips: “Wall Street professional know that acting on ‘inside’ tips will break a man more quickly that famine, pestilence, crop failures, political readjustments or what might be called normal accidents. There is no asphalt boulevard to success in Wall Streets or anywhere else. “
Finally, I want to leave you with a “big picture” book, Nassim Taleb’s Fooled By Randomness. Taleb is more famous for The Black Swan, which became something of a an overused buzz word during the 2008 mortgage meltdown. And his Antifragile, which was released in 2012, is also an insightful read. But in my view, Fooled By Randomness is the only real “change your life” book of the three.
After reading Fooled, you will see the effects of randomness everywhere. It can almost be a little disillusioning, as it can leave you wondering whether your own successes in life were the result of skill and hard work or simply being in the right place at the right time.
Fooled By Randomness, though it focuses primarily on the financial markets, will distinctly not teach you how to invest. It will do much more than that. It will teach you how to think. I am not exaggerating when I say that you will see the world through a different lens after reading this book.
This article was first published on InvestorPlace.
Charles Lewis Sizemore, CFA, is chief investment officer of the investment firm Sizemore Capital Management and the author of the Sizemore Insights blog.
[…] Great presentation by Mohnish Pabrai, one of my favorite investors and author of the Dhando Investor (see my review here). […]