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The Investor's Podcast (We Study Billionaires) - The Investor’s Podcast Network
TIP763: Investing Lessons for My 18-Year-Old Self w/ Clay Finck
01:02:17
Clay shares the most important investing lessons he wishes he could tell his 18-year-old self.
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Podcast Announcer
You're listening to tip.
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Clay Fink
I started investing at the age of 18 and frankly, I had no clue what I was doing. Some people told me that investing in the stock market is practically gambling. Some cautioned me to be careful, while others were happy to pitch me on an offshore drilling company, as if I had any idea what that actually meant. In today's episode, I'll share the most important lessons I've learned about investing in the 13 years that followed. When it comes to investing, I've made about every mistake one could make. While I've by no means figured it out, this episode contains the lessons that I wish somebody had told me when I was 18 and didn't know where to turn. In a world that's filled with noise coming from all directions, perhaps there's a newer listener out there who would find some value in one or two of these lessons. This isn't an exhaustive list, and the whole list just keeps on growing and growing as I make more and more mistakes. I'll also mention that these are of course the lessons that I myself find value in. So just because I see value in them doesn't necessarily mean that they'll be useful for you and what you're trying to achieve. So with that, I bring you today's episode on the Investing lessons for my 18 year old self.
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Podcast Announcer
Since 2014 and through more than 180 million downloads, we've studied the financial markets and read the books that influence self made billionaires the most. We keep you informed and prepared for the unexpected expected. Now for your host, Clay Fink.
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Clay Fink
Welcome to the Investors Podcast. I'm your host Clay Fink. This episode is intended to be like a letter to my younger self. It's not intended to be a one size fits all guide and know that what works for me might not be what works for you. Investing is part art and part science, so there's no exact one way to win the game, but we do need to give ourselves some sort of guidelines and frameworks to help tackle the issue of preserving and growing our wealth. Investing has been one of the greatest joys of my life and I feel honored to have the chance to chat about it with you here. Today I sat down for hours reflecting on my own investment journey to distill the top 12 lessons that I most needed to hear as an 18 year old who knew next to nothing about investing. The first lesson I'd like to share with my 18 year old self is that the best time to invest is today when I turned on CNBC or checked up on the latest financial news I consistently heard claims that the market was overvalued, and after losing 100% of my money on my very first $1,000 investment in an offshore drilling company, I certainly wasn't looking forward to losing money again by investing in an overvalued market. I graduated college in 2017 and I remember quite well that the narrative back then was that the market was overpriced and a market crash was just around the corner. Since that point in time, The S&P 500 has increased by nearly three times. So I'm certainly glad that I didn't listen to that advice that said to wait for the next major downturn Peter lynch shared the wise words Far more money has been lost by investors preparing for corrections and or trying to anticipate corrections than has been lost in corrections themselves. I'm certain that another downturn is coming, but I certainly have no clue when it will be coming. As lynch also shared, nobody can predict interest rates, the future direction of the economy, or the stock market. Dismiss all such forecasts and concentrate on what's actually happening to the companies in which you have invested. End quote. And even if you could predict the next downturn, it would likely be incredibly difficult to benefit from it by investing at the exact right time. Let's say I saved up a good chunk of cash from 2017 to 2020 and then Covid comes along in March 2020. All of a sudden the whole market is down 30%. There would have been countless reasons as to why you shouldn't have invested at that point in time. Earnings were collapsing due to the economy shutting down. Everyone turned pessimistic. Government officials went into panic mode and were shoving cash into people's hands to ensure that not too many people got laid off. The list goes on. There were plenty of reasons to be bearish as the market was just dropping like a rock. And then when you least expect it, the market bottomed and quickly went on to hit new highs. Timing the right time to invest is difficult and near impossible to do consistently. Investors that predicted the great financial crisis beforehand may have been smart once or twice in their career in trying to time the market, but they've typically been wrong more often than they've been right. The investment industry is an area where you have a lot of so called experts who sound smart that give terrible advice. So be careful who you listen to. Some of the most confident people in finance are given the biggest microphones and have some of the worst track records. Before taking someone's advice too seriously, understand first that person's track record. And second, understand the incentives behind why they say what they do. If someone's pitching me a stock and their investment returns over the past decade are say 5% per year, then that should be factored into my opinion in view of the company. On the other hand, if a concentrated investor that has returns of 20% per year just put a third of their portfolio into one stock, then I would be looking at that stock a little bit differently. The point isn't to follow investors with the best returns, but to consider the track record of the person giving advice and the incentive structure that they're operating on. So if we look at the incentive structure of a major financial news source, the people that work there might want to deliver good content that's valuable to their listeners and viewers. But at the end of the day, they are in the business of generating clicks and views. And the reality is that calling for the next crash or some other extreme viewpoint is going to generate a lot of clicks and views. So that is the incentive that they're operating on. Our show, on the other hand, actively dismisses using clickbait titles and turns down the vast majority of guests who don't have a track record of outperforming the S&P 500. If you've seriously reviewed the track record of any macro forecaster and how often they're right versus wrong, you'd probably never take their advice seriously. Again, turning back to my original point, the best time to invest is today. At 18 years old, you have an investment Runway that's longer than 99% of investors. So use that to your advantage. Get started investing no matter how small or even if it's just $50 or $100 a month. Compound interest is one of the most powerful forces on earth and you are most well positioned to benefit from it. At a rate of 10% compounding, $1 invested today will be $3 at age 30, $21 at age 50 and $142 at age 70. In the early years, compounding will test your patience and in the later years it it will test your bewilderment. This brings me to the second lesson I would share with my 18 year old self. It is possible to beat the market, but you should probably start with indexing for most of your portfolio. There's a significant number of investors out there who have convinced themselves and they're trying to convince other people that it's practically impossible to beat the market. And by the market, I mean the S&P 500. So in their mind you are completely wasting your time if you're trying to pick stocks and other publicly available investments to try and outperform the s and P500. And if you do manage to actually beat the market, then they'll believe that you just got lucky. In their eyes, beating the market is reserved for the unicorns like Warren Buffett who have tremendous skill and were simply in the right place at the right time. They believe that us mere mortals can't really emulate their success. So you simply shouldn't try to pick individual stocks. If you can't beat the market, then their response is to simply emulate the market's returns by buying a low cost etf. While I don't think they have bad intentions by any means or that their strategy doesn't work, I frankly just don't agree with them. And let me get a bit into why I believe that. We've all seen the headlines shown every year about how the index's biggest companies continue to carry the market higher and higher. The headline will read something like the top seven companies accounted for 90% of the market's gains this year. This makes it seem like seven stocks in the S&P 500 are doing well. And if you don't own those seven stocks, then you're underperforming the market. Well, let's look at some of the data on what's actually happening underneath the surface. As of the time of recording this year, the s and P500 is up around 15% out of the 500 ish companies in the S&P500. Take a second to think about how many companies have a return of 15% or more, which would be considered beating the market since the market is primarily driven by a select few outliers like the Nvidias of the world. Perhaps it's 15 stocks or maybe it's 30. In many people's minds, picking the market's winners is like buying the needle in the haystack. So it can't be very many. So out of the 500 companies in the S&P 500, 167 of them have generated return greater than that of the market this year. There are many investors in my circle that pick stocks that own many of these outperformers. And if we look historically, an even higher percentage of companies in the index tend to outperform. For example, in 2022, 57% of stocks outperformed the market and and in 2019, 46% of stocks outperformed. But picking these stocks that do outperform is still no easy task. You still have to have a good process in place for selecting companies in managing your portfolio. Another reality that index investors often point to are the studies that show that most active managers underperform the market over long periods of time. For example, research from Larry Swedrow showed that over a 15 year period ending June 2019, 90% of large cap, mid cap and small cap funds underperformed their benchmark S and P indices. And these are the professionals who are supposed to be good at what they do. And the vast majority are failing. What chance does that give us as individual investors? I would respond to that with a few things. First, I would ask, are the managers making a real attempt to beat the market or are they managing the portfolio in a way that will maximize aum or simply maintain their current asset base? If a manager is more concerned with managing client relationships, then they likely just want to closely mimic the index's performance and hug the index and try and not vary too much from it. And after you factor in the fees they're charging, it's highly likely that they're going to underperform. Why should I base my investment decisions on that sort of broken incentive structure? Second, I believe that investors today tend to make behavioral mistakes with their investments that we can be aware of and try to prevent in our own processes. For example, many investors today make too many trades and think too short term. The average holding period of stocks today is near an all time low and there's clear research that shows that the shorter the holding periods, the lower the returns. Back in the 1970s, the average holding period in the stock market was five years and today it's around 10 months. And the third thing I've mentioned is related to how many asset managers have a lot of constraints and guardrails when it comes to managing their fund. There are several points I could mention on this front. Many asset managers are constrained by how large they can let their positions become, either from a regulatory perspective or from a risk management perspective. So if they have a stock that's a home run, let's say it triples in three years, they might be forced to trim it because it's reached a certain size of their portfolio. Trimming your winners can be a detrimental mistake and may hamper the investors returns. Next, it's possible for a highly concentrated portfolio to be less risky and give you better odds of outperforming. But being highly concentrated tends to bring higher volatility to the overall portfolio, which can make it more difficult for an active manager to do if their Clients get upset when the portfolio is down 20% while the broader market is down 10%. Underperforming the market from time to time is just inevitable no matter how great an investor you are, which makes it even more difficult to do if you have clients calling when you aren't doing as well. The third point I would add here is related to incentives and career risk. Even if a manager believes in a contrarian investment that might take two to three years to play out, going against consensus can be dangerous for their job security if the idea underperforms in the short term. This pressure often leads managers to hug the benchmark or make safer, more consensus trades, even when they know that it might mean lower long term returns. Your typical manager likely cares more about keeping their job and providing for their families and rather than generating the best risk adjusted returns for their investors. And lastly, many firms manage hundreds of millions or even billions of dollars, which can make it much more difficult to outperform the market. Large funds can't easily buy into smaller, less liquid companies where some of the biggest inefficiencies often exist in the market. As a result, they're often forced to fish in the same large cap pond as everyone else, limiting their opportunity set. Beating the market certainly is not easy, and understanding why many investors have such a hard time doing it can help us best position ourselves to take advantage of the market's inefficiencies. Lesson number three for my 18 year old self is that patience is one of the biggest advantages an investor can have. Investors looking for quick profits and instant gratification in the markets are operating in a crowded space, which is why trading is just so difficult. It can be tempting to try and chase quick 10% or 20% returns, but the real money will be made in the long term. Thomas Phelps, who wrote the book 101 in the stock Market, said that to make money in stocks you need to have the vision to see them, courage to buy them, and the patience to hold them. Patience is the rarest of the three End quote. Anybody can buy a stock in a great company. Few will have the patience and the emotional fortitude to hold it for 10 years or more. Similarly, many business managers make decisions based on the short term, so look to partner with managers who set out to maximize long term shareholder value and invest the business's capital for the long term. It's hard to overstate the value of a management team that is shareholder friendly, has skin in the game, invests in their business for the long term, and is running their business for reasons other than money. Buffett was once asked about his criteria for evaluating a management team years ago, and he talked about how when Berkshire buys a wholly owned business and keeps the management in place, the manager is oftentimes receiving tens of millions or even hundreds of millions of dollars for the businesses they're running. Buffett is well aware that the manager, after they sell their business, likely is not too motivated by just money because they'll likely never be able to spend everything they have. So Buffett wants to find fanatics who love their business as much as Buffett loves Berkshire. That's the type of manager that can deliver outstanding performance over 10 plus years. My friend Joseph Szepochnik and I were chatting about fanatics at our summit event in Big Sky, Montana recently. One company that Joseph is a shareholder of is Heico, which has been run by the Mendelsohn family for over 30 years. He mentioned to me that all the Mendelssohns do is work. They are true fanatics about their business. And I think Heico is such a good case study of the types of things to look for in a management team. They're thinking about how to maximize long term free cash flow per share, which ironically can make the business look unattractive today if you're looking at the headline pen or whatever metric because they simply are not optimizing for that variable. Other types of businesses that are making value accretive investments in marketing or R and D might be decreasing their earnings per share today, but they're increasing the long term value of the firm. Many managers aren't willing to suffer that short term pain today. In the same way Jeff Bezos once said, if everything you do needs to work on a three year time horizon, then you're competing against a lot of people. But if you're willing to invest on a seven year time horizon, you're now competing against a fraction of those people because very few companies are willing to do that. Just by lengthening your time horizon, you can engage in endeavors you could never otherwise pursue. End quote. It's against human nature to delay gratification and think long term. This quirk in the human psyche creates tremendous opportunities for for those who can harness it. Perhaps a great business drops by 10% because of a quarterly earnings miss, or other investors simply just get tired of holding a name because the stock has gone nowhere in the past year. Many investors fall prey to what some call hyperbolic discounting. Hyperbolic discounting is when large payoffs far into the future due to the power of compounding are heavily discounted today. So a great business might look fairly priced when we look out three years, but ridiculously underpriced when we look out 15 to 20 years. This leads me to my fourth lesson I would share for my 18 year old self. Most stocks will be mediocre at best. Just focus on great businesses that are simple to understand.
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Clay Fink
As a small business owner, you do not have the luxury of clocking out early. Your business is on your mind 24 7. So when you're hiring you need a partner that works just as hard as you do. That hiring partner is LinkedIn Jobs. When you clock out, LinkedIn clocks in. LinkedIn makes it easy to post your job for free, share it with your network and get qualified candidates that you can manage all in one place. LinkedIn can even help you write job descriptions and quickly get your job in front of the right people with deep candidate insights. You can post your job for free or promote it to get three times more qualified applicants. And with LinkedIn you can feel confident that you're getting the best applicants as 72% of small and medium sized businesses using LinkedIn say it helps them find high quality candidates. Find out why our business and more than 2.5 million other small businesses use LinkedIn for hiring today. Post your job for free at LinkedIn.com studybill that's LinkedIn.com studybill to post your job for free. Terms and conditions apply. I take a lot of notes Coming up with new ideas for the podcast, jotting down notes for investing research, even everyday to do lists and keeping these notes all organized used to be a challenge. That's why I started using the Remarkable Paper Pro Move. It's a paper tablet and it combines the familiar feel of paper with the digital powers of a tablet. I can jot down notes by hand, then instantly convert them to text and share them by email or Slack. I found that other note taking methods have clear drawbacks. Paper is hard to organize and easy to lose. Balancing laptops on my knees can be uncomfortable and annoying and and on our phones our attention gets hijacked by social media and endless notifications. Remarkable Paper Pro Move is nothing like your other devices. It has a display that looks, feels and even sounds like paper, so there's no blue light that causes eye strain. And most importantly, Remarkable's mission is about helping you think better. That means no apps, social media or any other distractions. You can try Remarkable Paper Pro move for 100 days for free. If it's not what you're looking for, you get your Money back. Visit remarkable.com to pick up your paper tablet today. That's remarkable.com alright, back to the show. Buffett shared the wise words that it's far better to buy a wonderful company at a fair price than a fair company at a wonderful price. Around a year ago I had Hendrik Bessembinder on the podcast in his popular study titled Do Stocks Outperform? Treasuries showed that since 1926 just 4% of stocks generated all of the excess returns above that of treasury bills. In other words, the outcomes in the stock market are skewed towards the market's biggest winners. One of the surprising findings from that study was that the average stock in the market actually ends up losing investors money relative to treasury bills. It's amazing how there are thousands of public companies globally that will be poor investments. Yet the market's overall returns for investors is something like 10% per year because the big winners end up carrying the whole weight of the index over the long run. Great businesses are where the money is to be made, so focus your attention there. I would define a great business as one with the following attributes, so I have quite a list here, so please bear with me. It has the ability to generate durable free cash flow both in good times and in bad times. It delivers stable and durable growth in revenue and free cash flow. It's an added bonus if the business is a leader in their industry and has secular tailwinds and the company is gaining market share in that growing industry. It has a long Runway to grow. It's run by honest and capable management teams that understand capital allocation. The business and the management team have a track record of delivering above average performance. The business generates high returns on invested capital. The business is able to sustain those high returns with some sort of moat or competitive advantage. The business has a strong balance sheet and is not over leveraged and it should have minimal dilution, meaning that the management team isn't handing out a lot of shares to employees or issuing a lot of shares to do an acquisition. There can be exceptions to some of these points, but these are what generally apply to a great business and most businesses won't perfectly fit into each box. To learn more about investing in great businesses, I would highly recommend Lawrence Cunningham's book Quality Investing. Remember that there are more than 5,000 publicly listed companies in the US and many more globally. You should likely say no to most opportunities that come your way and say yes to those that are simple to understand and have a path to generating returns of at least 10% per year. That's highly visible out of that list above. I'd like to expand more on the importance of the moat, because without a moat, the business isn't likely to generate excess returns over the long run. Buffett highlighted moats as the main pillar of his investing strategy. As he stated, the products or services that have wide sustainable moats around them are the ones that deliver rewards to investors. In this capitalistic world, there are a lot of players in the game of capitalism looking to arbitrage away any excess returns that are out there. So ideally you're invested in a business that has a bulletproof moat so they can continue trudging along and growing. Some moats are easy to spot, such as Facebook's network effect on Facebook Blue and Instagram, while other moats are more difficult to spot, such as the impact of the culture at Costco and how difficult that culture is to replicate. I like to verify the strength of a moat simply by looking at the numbers. Don't tell me you have a great moat. Show me a couple of stocks that we've done a breakdown on. Our Best Quality idea series are MasterCard and Booking Holdings. MasterCard has consistently had a return on invested capital of around 40% over the past decade, and Booking holdings is in a similar boat. I don't need to count on the company's word that they have a moat, or the analysis of some analyst, or do a bunch of scuttlebutt research myself. A lot of the proof is in the performance. Companies that earn consistently high returns on invested capital tend to continue doing so because their underlying advantages reinforce themselves over time. Winners tend to keep on winning, just like an object in motion tends to stay in motion. One of the concepts that resonated with me in my recent conversation with David Gardner a few weeks back was the COLA test. If you're investing in the leader of an industry, ask yourself if there's a Pepsi to the leader's Coke. If the business is the only one doing what they're doing, then you won't find a Pepsi to its Coke. These types of businesses are rare, but they can just be amazing opportunities. Once Google Search became the dominant search platform, there was no real competitor to what they did. There was no Pepsi to Google's Coke. The same thing could be said with Amazon and E Commerce and Netflix and Streaming. To share one example in my own portfolio back in February 2023 I read through Mark Leonard's letters from Constellation Software and ended up doing an episode on them and I felt that it fit perfectly within my framework that I've outlined here. The company has generated remarkable levels of growth and free cash flow per share, and I believe that they have a long Runway to continue doing so alongside their two spinoffs, Topicus and Lumine. One would think that another company would be able to do what Constellation does at scale, but I haven't found one yet. And the cherry on top was that these businesses have management teams that are honest and competent and own a significant amount of shares in the company so that it becomes easier to hold and monitor these companies. I don't want to lie awake at night wondering if a management team is acting in my best interest or not. This brings me to my fifth lesson for my 18 year old self. You're going to be wrong at times, and that's okay. Losing 100% of my money on my first investment was ironically one of the best investments I've made because of the lessons I took away from that experience. Bill Miller said that he views his losses in the market as tuition payments. When you're young, you aren't dealing with a large capital base, so it's okay to make those mistakes early as your prime income years are still ahead of you. Sometimes moats get disrupted and there's really no way to say for sure. You could have seen it coming ahead of time. That's why you should spread out your bets and not be too hard on yourself when things don't go your way. When you have high conviction on an investment bet enough that it makes a difference, but not so much that it would destroy you if you're wrong. A 1% position that triples will likely just leave you disappointed that you didn't bet bigger when you felt that you had this story right. Stocks that have a lot of downside risk should probably be weighted lower in your portfolio. Let them earn their keep in the portfolio. Fewer stocks does not always equate to a higher risk portfolio. One position in Berkshire or one position in Amazon can actually be less risky than a portfolio with 10 technology stocks due to how diversified, durable and how well managed Berkshire and Amazon are. Chris Mayer once said to me that some investors have a false view that somehow the number of stocks they own is going to save them. Once you get above 20 stocks in the portfolio, the benefits of diversification start to see diminishing returns. One of my favorite investors, Bill Ackman, stated, for an individual investor, you want to own at least 10 and as many as 20 different securities. Many people would consider that to be a relatively highly concentrated portfolio. In our view, you want to own the best 10 or 15 businesses you can find, and if you invest in low leverage, high quality companies, that's a comfortable degree of diversification. Expect the average success rate of your investments to be less than 50%. Successful investing isn't just about being right, but also making it count. When you are right, both the frequency and the magnitude of the payoff matter. Although the market is broadly efficient, there are times when great opportunities will be served. Keep a watch list of great businesses and see if you can find positive developments at a company that isn't being appreciated by the market, or if the market is overreacting to events that are short term in nature. My last point on this lesson is not to fixate so much on the outcome. The best investors prioritize having a good process rather than obsessing over the outcome. Sometimes good decisions lead to a bad outcome, and sometimes a bad decision can lead to a good outcome. Randomness impacts the market in an infinite number of ways, but over time a good process is what leads to consistently better results. This mindset helps you stay grounded when things don't go your way and prevents emotional decision making after losses. There will be times when others are getting rich much faster than you and it will be up to you to stick with your process in the game that you're playing. Luck contributes meaningfully to results in the short term, but the goal is not to achieve good short term returns. It's about compounding capital for decades. Nobody achieved this by chasing that which is most popular. Alright, lesson number six, valuation matters. But don't overemphasize it. Now, what do I mean by that? Many investors fixate their valuation analysis on the P E ratio. For many investors just getting started, a high PE stock means a stock is expensive and a low PE stock means it's cheap. The reality is that cheap stocks appear cheap for a reason. And there's often a good reason why Company A trades at a lower P E ratio than its peer, Company B. Value investing is not about finding a low PE company. If it were, then we'd all be buying ebay instead of Amazon. To me, value investing is about owning the best of breed companies that can compound free cash flow per share over long periods of time. To put it in Buffett's words, leaving the question of price aside, the best business to own is one that over an extended period can employ large amounts of incremental capital at very high rates of return. The worst business to own is one that must or will do the opposite. That is consistently employ ever greater amounts of capital at very low rates of return. One of the businesses I owned early on in my investing journey was Netflix. This is before I got duped into thinking that I should focus on buying low PE stocks. Let's go back to 2016. I was a young investor and pretty naive. I noticed that everyone was using Netflix. Their subscriber growth was off the charts and the stock was performing quite well, which is probably the most attractive thing about it to me. The company's market capitalization was roughly $60 billion at the end of 2016, and the business was generating roughly 186 million in net income. That means that Netflix was trading at a PE ratio of 322. Once I learned the importance of the PE ratio, I was appalled. What am I doing owning a stock that is this expensive? And not only that, free cash flow for the year was negative 1.6 billion. So not only was the P E ratio sky high, but but the business was burning through cash like there's no tomorrow. But on a positive note, the annual report showed that revenues were compounding at 25% over the past few years with no signs of slowing down. And global streaming members were compounding at nearly 30%. And Netflix was rapidly expanding its service globally. In 2010, they launched in Canada. In 2012, in the UK, Ireland, Finland, Denmark, Sweden and Norway. In 2015, Australia and New Zealand. So, like clockwork, they were launching their service all over the world. Now the P E ratio is a backward looking view of the company, but as investors who are looking to become true long term owners of the business, we need to consider what a company is positioning itself to become in the future. If Netflix is launching their services in all of these new countries, it would be logical to assume that initially they would be unprofitable early on in their launch, and as subscriber growth would pick up in those countries, it would eventually turn profitable and generate good returns for investors, assuming that Netflix would continue to be the dominant streaming provider. By 2013, Netflix was also starting to release their own content, and by 2016 Netflix was the clear leader in the industry. As the leader with the most subscribers, they would have the most money to invest in new content and on a per subscriber basis. Ironically, they would be spending the least on a per subscriber basis, giving them a cost advantage over everybody else. But perhaps there would be a number three or a number four player that wasn't investing in new content and wasn't expanding into new markets. And maybe their PE would be 10 or 15. Perhaps the value investor in US would say that we should buy the company that's trading at the low PE instead of the company with a pe of over 300. Well, that would have been a huge mistake as since the end of 2016, shares of Netflix are up nearly by tenfold. Back to my original point, valuation is important, but it isn't everything. Many investors are wired to look at the PE and let that lead to their decision of buying a company or not. If we use second order thinking, perhaps we should ask ourselves, why is this company trading at such a high pen? What is the market seeing that I'm not, then that can open up our minds to the possibilities of what a business could become. Instead of fixating on the recent financial results or focusing on metrics that the business is not necessarily optimizing for. This brings me to lesson number seven. With every investment, understand where your return is going to come from. Ben Graham once shared that investment is most intelligent when it's most businesslike. In interacting with everyday people about the stock market, I've found that most people think of stocks as tickers on a screen that trade up and down. So naturally they're asking themselves and asking other people which stock is going to go up in the next three months and putting little to no emphasis on the actual business. In 2021, many people who have never purchased a stock in their life purchased shares of GameStop because it went up over the past two weeks. So why wouldn't that continue? Back on episode 634, I interviewed Jon Huber, and we covered his three sources of returns for every single stock on the market. The three sources of returns for any stock is earnings growth, the change in the PE multiple, and the shareholder returns, which includes share repurchases and dividends. This concept really clicked for me, and it made a lot of sense, and it gave me an easy way to look at my opportunity set as an investor and and compare two investments that seem to be very different. It also helps ground me in that mindset as a business owner, rather than that as a trader or a speculator. Each value investor has their own style of investing, and the three sources of returns highlight how some investors are attracted to businesses that have, say, high shareholder returns, say, buyback ratio of 12% and then a dividend of 3%, giving a 15% total return. And other investors might be more attracted to businesses that have robust earnings growth of, say, 15%, and then you have no buybacks and no dividends, for example. Related to this concept is a core principle that Francois Berchon and I discussed, which is this idea that over the long run, the growth in the intrinsic value of a business will essentially match the increase in the value of the stock price. It's such a simple concept, but so profound. So in Francois 2024 annual letter to partners for Giverny Capital, he outlined the increase in the intrinsic value alongside the increase in the market value of both his portfolio and the S&P 500. The annual change in the intrinsic value is simply the change in the earnings per share plus the dividend. And the change in the market value is simply looking at the change in the stock price and accounting for dividends, of course, as well. So from 1996 to 2024, Rochon estimated that the intrinsic value of his portfolio compounded at 12.9% per year, and the change in the market value was 13% per year. So this highlights how the growth in the earnings per share is just this fundamental law of gravity that lifts the stock price of companies as their earnings per share increases. So if you have conviction that a company will compound earnings per share at a rate of, say, 12% over the next 10 years, then you should expect the share price to roughly grow at that rate as well. Once you understand this, you understand that the stock market is not a place to trade tickers, a place to gamble, or a place to try and double your money this week. It's a place to buy wonderful businesses and benefit from the growth and their intrinsic value. Be grateful for the opportunity to become a part owner in some exceptional publicly traded businesses and ride the wave of their long term growth and intrinsic value. Turning to lesson number eight, Surround Yourself with Other like minded Investors Surrounding yourself with other like minded value investors can be one of the most powerful accelerators of your growth as an investor. Being a value investor can often feel like a solitary pursuit, but having others in your network can offer a fresh perspective on portfolio management, the market and individual companies. You can also get constructive feedback and potentially catch blind spots that would have otherwise been overlooked. Having a peer group can also help with sourcing ideas and expose you to new industries and companies that you might not have encountered on your own. With time, your relationships will compound in ways you couldn't imagine. Just like your investments do. They can also help keep you grounded in a market that just seems to keep going up or help keep you from buying the hottest stocks in the market. 2025 has served as a reminder that even some of the best businesses don't have an infinite price you can pay for them, as companies like Ferrari and Costco, for example, have seen their valuations contract while the broader market continues to rise.
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- [40:24]
Clay Fink
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I have several members do stock presentations or portfolio reviews on the weekly calls we host and it's just been a tool for me to peer into other people's portfolios to see what stocks they have the highest conviction in. And many of our members have the luxury of investing full time. So they spend a significant amount of time turning over rocks and really getting to understanding a business. So it's served as a really good source of idea generation for me in building out my own watch list. For example, one of our members is an analyst at a firm that manages tens of billions of dollars and he's given recorded presentations to the group on companies like Linde, Brookfield and MasterCard. And what's also nice is that many of our members that don't invest full time, they work in a variety of different industries. And this can give me insights that I otherwise wouldn't have exposure to in learning about these industries. With a group of 120 who have studied a wide range of different companies, when I know someone else who has already looked into a specific company, I can, you know, reach out to them and find the truth earlier in my process, allowing me to focus my attention elsewhere should I need to. I just recently got back from our community meetups in New York City where we had 25 or so members attend, which makes being in this community even more fun as you build out those relationships in person and and really get to know some very interesting members as well. Turning to lesson number nine. Use clear megatrends to your advantage. One of the best ways to tilt the odds in your favor as an investor is to invest in businesses that are riding the tailwinds of major long term trends. These are industries that are growing at healthy rates for years, sometimes decades, and investing in the leaders in those industries is like investing with the wind at your back. Instead of fighting for scraps in a declining or stagnant industry, you're betting on companies that are taking a share of a bigger and bigger pie. Each year there are several megatrends available for us to invest in. A few examples that come to mind are the shift from physical to digital commerce, digital advertising, cloud computing, cybersecurity, artificial intelligence and semiconductors. The tricky part of doing this is ensuring that the companies you're investing in have a strong competitive moat and there isn't too much capital being invested in the industry, which tends to lead to lower returns for all players operating in that industry. When I look at a potential investment, I ask myself, is this company swimming against the tide or riding with it? Businesses with strong tailwinds can afford to make mistakes and still grow, while those facing headwinds need to execute flawlessly just to tread water. And when a company is a clear leader in a growing industry, it tends to benefit from scale, efficiency and brand power that competitors just can't easily match. Megatrends also help you narrow your opportunity set. Instead of trying to study every company in the market, you can focus on the few industries that are structurally advantaged and worth your attention. And within those, you can zero in on the top one or two players who are likely to capture the bulk of the value creation. One of my favorite clear megatrends is the shift from traditional to digital advertising. I'm a customer and user of Meta ads, so I clearly see the power of them. Meta, Google and Amazon are the clear leaders in digital advertising, and they are by far the best at delivering the results for advertisers. Ideally, the player is not only riding the wave in the growth of the industry, but but also gaining market share. Google and Meta got an early lead in the space and in recent years have been losing share to Amazon. It's just very obvious to me that more and more ad dollars are going to shift from billboards, radio, newspaper and TV to these digital alternatives simply because the data's better. There's that old saying that 50% of my marketing is not working, I just don't know which 50%. Well, now you can literally see all of the data on whether your ad dollars are being effectively spent or not. And since Meta, for example, is so good at delivering results, that's why we've seen them grow revenues at 28% compounded over the past decade. Another industry I've had an increased amount of interest in is the semiconductor space. The semiconductor industry is one of the most compelling areas to invest in because it sits at the foundation of every major technological megatrend. Chips power everything from smartphones and cloud servers to EVs, factory automation and artificial intelligence. As the world becomes increasingly digital, the demand for chips continues to grow at an extraordinary pace. What also makes this industry attractive are the competitive advantages that some companies have. On episode 746 I discussed Mark Hyginks book on ASML and I was impressed by the competitive position and the returns that ASML has generated. Historically, ASML is so far ahead in the technology they develop that they practically have a monopoly in what they do. And recently a member of our TIP Mastermind community gave an excellent presentation on tsmc, who also has an enviable position in the industry. As our audience knows, we're going through a wave of AI hype and there are going to be so many different winners and losers with regards to AI. Predicting the winners will be hard, so sometimes it's best to bet on the picks and shovels players or the enablers of the AI boom. A lot of capital invested will end up falling into the hands of ASML and TSMC as they produce the chips and the machines to fulfill the AI demand. Unlike many industries where growth attracts a lot of capital and destructive competition, semiconductors have only a handful of true players at the leading edge, each operating in a specialized segment with distinct moats. But one of the tricky parts with this industry is the cyclicality. It's practically impossible to predict the timing of the next downturn or the boom as demand for chips ebb and flow with economic conditions. Rather than trying to time the cycle, investors are usually better off focusing on the long term trend, which is betting on the fact that the world will continue to need more computing power, more data storage and more efficient chips for decades to come. Turning to lesson number 10 here, understand investor psychology. The human brain has changed very little over the past 10,000 years, but the world around us has changed dramatically. Thus, our instincts were built for survival in a world of immediate threats everywhere, not one for navigating the uncertainty of the stock market. The same emotions that once kept our ancestors alive, emotions like greed, fear, and the desire to follow the crowd These can now push us to make irrational decisions with our money. Earlier I mentioned that one of my first investments I ended up losing all my money. So in that investment, I of course fell prey to loss aversion, which states that people feel the pain of losses roughly twice as strongly as the pleasure of equivalent gains. Even though I knew making that investment was a big mistake when it was down 50%, I had a bias against locking in those losses, hoping that it would recover back to where I initially bought so that I could then exit. In the vast majority of cases, if you recognize that you made a mistake in owning a business in the first place, you should cut your losses and move on. It requires you to set your ego aside and ignore the desire to try and wait for it to get back to Even the stock has no idea you own it, and it has no idea the price you paid for it. Markets are forward looking, not backward looking, and you don't have to make your money back the way you lost it. Mixing your ego with your investments is an expensive mistake when it comes to investing. The next psychological bias I often see and oftentimes feel myself is is falling prey to the herd mentality. The urge to follow the herd is deeply rooted in our DNA as humans. For most of human history, survival depended on belonging to a group in our minds, belonging to a group meant safety, and standing alone often meant danger. So our brains are hardwired to seek social validation and avoid rejection, which has served us well when threats were physical, but works against us in markets when independent thinking is rewarded. When we see others making money in a particular stock or sector, our instincts tell us that they must know something that we don't, triggering a powerful fear of missing out. This social pressure can override logic, pushing us to buy it, euphoricize, or sell in moments of panic. Simply, that's because what everyone else is doing. Successful investing requires fighting this instinct and having the courage to act rationally when the crowd is emotional. In investing, the best opportunities often tend to be the most unpopular ones, so you want to do the exact opposite of what the herd mentality would otherwise tell us to do. As a host here at tip, I often get asked about what Francois Rochon would call the flavor of the day, which are essentially the hottest sectors of the market that people are the most excited about. In 2020, it revolved around the quick shift to remote work, sending stocks like Zoom up massively. In 2021 it was tech stocks and crypto, and in 2025 it's AI. I'm sure there was money to be made in all of these times, but I would argue that the odds are stacked against you by investing in the hottest industries that are making the headlines and that are discussed daily on the mainstream news. From February 2020 to October of 2020, shares of Zoom rose by over six fold and today shares of Zoom are back below where they started back in February 2020. The stock chart of Zoom is a perfect illustration of what happens when there's sudden interest for a stock or a sector. The stock price can rise very quickly and if these high expectations that are priced in aren't met, the stock can fall just as quickly as it rose. Never buy a stock because your neighbor is buying it, has money on it, or recommends it. Value investors can use the herd mentality bias to their advantage by searching for stocks whose share prices have been unfairly punished. At our summit event in Montana, one stock that was discussed in depth amongst our attendees was Lululemon. If you took a look at the stock chart for Lululemon, one would think that the business is in decline as the share price is approaching the March 2020 low from years ago. In 2021 the stock was at a PE of more than 70 times earnings and today it's down to just 11 times earnings with the stock down over 65% from its all time high. Nobody's excited about Lululemon today except a handful of value investors searching for bargains. Perhaps Lululemon's business is in trouble as I noticed that their founder Chip Wilson, took out a full page ad in the Wall Street Journal to call out the management team for dismantling the business model and losing key employees. That made the company great. Another psychological bias that's easy to fall prey to is overconfidence. Studies consistently show that around 80 to 90% believe that they're better than average drivers. I have a minor in statistics, but I wouldn't need that minor to know that the math just does not add up here. I believe this carries directly over into investing. Most people, I think, have deluded themselves into thinking that they are better than the average investor, and this can lead us to making some poor investment decisions due to overconfidence. This bias often shows up after a few good decisions or lucky wins, leading us to mistake luck for skill. And it can lead us to stepping outside of our circle of competence, taking on excessive risk, using leverage, or concentrating too much in a single stock because we feel certain about the outcome. I recommend that if people want to be humbled and shown that maybe they're not as smart as they think they are, the stock market is a good place to go. Even the greatest investors have been wrong about some of their highest conviction bets over their careers. Having conviction in investing is important, but it must be balanced with humility and an awareness of how much we don't know. Whenever investing feels easy or when you feel like you can do no wrong, that's probably when you should take your foot off the gas and possibly start investing more conservatively so you don't get in over your head. Lastly, I'd like to highlight confirmation bias. This bias shows up when we seek out information that supports our existing beliefs while ignoring evidence that might contradict them. Once we've formed an opinion about a company or an investment, our brain subconsciously goes to work trying to prove ourselves right instead of testing whether we might be wrong. It feels good to find data that validates our thesis, but that comfort can be dangerous in markets that punish complacency. Confirmation bias can lead us to dismiss red flags, overestimate the quality of a business, or hold onto a losing investment far longer than we should. One of the best ways to combat this is to deliberately look for the bear case to ask what would happen for me to be wrong here? Surrounding yourself with thoughtful investors who challenge your assumptions can also help break through that echo Chamber of Common the goal isn't to be right all the time, but to stay open minded and flexible enough to recognize when the facts have changed that humility and intellectual honesty are what allow good investors to evolve and improve over time. Avoid Unnecessary Complexity in investing There are a lot of ideas that sound smart but are unnecessarily complex. I feel like I've unfortunately made all of the mistakes in the book. I used to try covered calls to collect income on my holdings, I've purchased leaps, I've utilized leverage, unfortunately, and I've bought into companies that were way outside my circle of competence. All of these activities were a total waste of time and money. I think most investors could do without any of those things. They could also do without overly complex valuation models, not owning too many stocks or trying to time the market. When I first started investing, I thought that the more complex an idea sounded, the smarter it must be. But over time I've realized that simplicity can be an investor's superpower. Businesses that are overly complex and difficult to understand can have some hidden risks that make it harder to see when the compounding engine isn't quite working right. Great investors understand that just a few key variables are going to drive the long term performance of a stock and and are able to filter out much of the noise that surrounds that. If you buy and hold a select number of great businesses and not tinker with the portfolio too much, then you only need a couple of them to do really well and carry much of the long term results. One of the things that Chris Mayer said to me on the show was that as a general rule, the source of outperformance can come from an investor's willingness to let something become a bigger part of their portfolio and to really ride those winners. And my last point here. Lesson number 12 think for yourself. Plenty of people will have different opinions about, quote unquote, the right way to invest. Most people are coming at the investment puzzle from different angles, with different risk appetites, experiences and goals. Thinking independently means developing your own reasoning process and not outsourcing your conviction to others, no matter how credible they may seem. You'll constantly be surrounded by noise, from market headlines to social media opinions, each pulling you in different directions. The best investors learn to listen thoughtfully, but make decisions that are rooted in their own analysis and principles. Independent thinking doesn't mean ignoring others, it means having the courage to stay grounded in your process. When the crowd is headed the other way, it's easy to adopt someone else's investment idea because maybe that investor sounds smart or has a really good track record. But if the stock drops 30% after you buy it, you'll only have the confidence to hold it if you've done the work yourself. True conviction cannot be borrowed. It has to be earned through your own research. I have this theory that most of the time your investments are going to look crazy to other people. So if you take other people's opinion too seriously, you're going to drive yourself crazy. One of Warren Buffett's most successful investments in his career was his Coca Cola investment in 1988. Over the 10 years that followed that investment, shares of Coke went up by tenfold, while The S&P 500 went up by threefold. However, Coca Cola outperformed the market in only six of those 10 years. So the right decision doesn't always equate with the outcome you wanted. In the short term, there will be times when the businesses you own go through some turbulence, and there will be drawdowns of 20, 30, 40% in some of your best investments. The market will try to scare you out of your best ideas, and it will be up to you to think for yourself and have the conviction in what you own. Benjamin Graham stated, the investor who permits himself to be stampeded or unduly worried by unjustified market declines in his holdings is perversely transforming his basic advantage into a basic disadvantage. That man would be better off if his stocks had no market quotation at all, for he would be spared the mental anguish caused by another person's mistakes of judgment. As fun as investing can be, we all inevitably go through some discomforting times. Whether it's holding a stock that others think is boring or avoiding a mania everyone else is chasing. For me, the most discomforting thing is being down on my positions. But discomfort is part of the price of success. Ultimately, your best investment ideas will come from you doing your own work, and you don't have to have insane levels of IQ to figure this game out. Like I mentioned earlier, surrounding yourself with really smart people can be extraordinarily helpful, but still rely on your own judgment in making decisions. Value investing is about understanding price and value. Price is what you pay and value is what you get. The market will quote you all sorts of prices, but most of which will be fairly rationally priced. The more you understand about the businesses you own, the more the more confident you can be in whatever their value might be. Finally, select an investment philosophy that suits your own skill set, goals, and personality. When you select a strategy that fits you, then you've found an approach that you're more likely to stick with over the long term. To help you find your own path, I would suggest four books Richer, Wiser, Happier by William Greene, the Joys of Compounding by Gautam Bade, 100 Baggers by Chris Mayer, and the Warren Buffett Way by Robert Hagstrom. All four of these books have been instrumental in how I view the world of investing. At the end of the day, remember to enjoy the journey. Don't measure your progress too closely by comparing yourself to others, as everyone's path will look different. Investing is one of the most intellectually rewarding pursuits out there, and if you approach it with curiosity and patience, it will give you far more than just financial returns. It can shape how you think, how you make decisions, and ultimately how you view the world. Alongside your value investing journey, you'll also have a chance to meet some truly wonderful people who share your passion for learning and independent thinking. Those relationships often become just as rewarding as investing itself and can be a source of inspiration for further growth. Here at tip, we have a few communities that give our audience members the opportunity to network with like minded people. I help manage our Mastermind community, which I mentioned earlier. This is a group of around 120 people who tend to be entrepreneurs, private investors or asset managers. We get together weekly for live zoom discussions that we record and we meet in person twice a year in Omaha and New York City. So if you're interested in learning more about the Mastermind community, you can go to theinvestorspodcast.com mastermind that's theinvestorspodcast.com mastermind our next set of live events will be in Omaha during the Berkshire weekend the first weekend of May. We had over 50 people at our community dinners and social this past year in 2025 and expect a good turnout again in 2026. If you'd like to learn more about the community, our events in Omaha, or really anything related to the Berkshire meeting, I'd be happy to help out. I definitely recommend going to Omaha to make it to the Berkshire meeting. If you've never been before, it's definitely a great experience and a wonderful opportunity to connect with like minded people. You can shoot me a note through email and that's clay@theinvestorspodcast.com or you can shoot me a note on LinkedIn as well. So with that, thank you for tuning in to today's episode on the 12 investment lessons for my 18 year old self. This was a really fun one to reflect on and drill down on the most important things I would share with my younger self. Hopefully you found one or two of them useful for yourself.
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