SMART Market

Inspiring for Smart Investing

Review of Investing – the Last Liberal Art

sb10067756i-001by Robert Hagstrom

Charlie Munger is like a kind of Mycroft Holmes to Warren Buffett’s Sherlock – he is the deep thinker of the two, and a man who believes strongly that the general acquisition of wisdom can lead to a better approach to investing.

Munger believes in having a grasp on the central ideas of as many disciplines as you can, and furthermore believes in finding the links between those various disciplines – the “lattice-work of models”, in Munger’s words, that enables a person to approach any new idea or concept with a framework of understanding that goes well beyond the subject at hand. Beyond being useful for investing, Munger believes, as do we, this to be a healthy approach to life in general.

Influenced, as he acknowledges, by Charlie Munger’s investment philosophy, Robert Hagstrom’s book takes up on Munger’s approach. Investing: the Last Liberal Art, by the author of The Warren Buffett Way, is an extraordinary achievement, a book that goes far beyond being a simple primer of investment approaches. In its two hundred pages, it manages to elegantly offer the following:

1. An explanation of the stock market, and a common-sense guide to investing

2. A necessarily brief, but nonetheless clearly written overview of much of Western thought in regard to physics, biology, psychology, and genetics, as well as fascinating, more detailed looks at certain basic principles in all these areas.

3. A series of frame-works of understanding, drawn from these disciplines, for understanding the stock market and investing

4. A powerful and convincing plea for a traditional liberal arts approach to knowledge, and an indictment of business schools and their emphasis on a narrow focus that obliterates a larger view of life, and in turn leads to a narrow, capitalistic, money driven and shallow human being.

Hagstrom proceeds sequentially through various areas of Western thought, highlighting general principles and showing how they can be applied to economics, the stock market, and investing. From physics, he focuses particularly on equilibrium theory. In the following chapter, biology, he draws parallels between Darwin’s principles of evolution and the stock market, in which “survival of the fittest investment approach” can be said to operate, resulting in a continuous need for new approaches.

The following chapter, exploring the social sciences, is the book’s strongest. Hagstrom draws convincing connections between the foraging patterns of ants, the growth of the internet, and current experiments in the ability of social systems to find optimal solutions, to explain the way the stock market continuously corrects itself. As if that wasn’t enough, he follows it up with a lucid explanation of how the nature of catastrophe works in social systems, how minor problems can multiply exponentially out of control until a new stability is reached, and the implication this holds for stock market crashes.

In psychology, Hagstrom examines some of the inbuilt pattern-seeking mechanisms of the human brain, and explores why these mechanisms result in stock market instability. The human brain, Hagstrom explains, is not designed for optimal processing of stock market information, and this results in inherent instabilities in the system that cause oscillation. By compensating for these inbuilt flaws, however, Hagstrom explains how investors distinguish themselves from speculators on the stock market, and are able to judge not trends, but the intrinsic value of shares, irrespective of current market value, and thus take advantage of psychologically-based oscillations to purchase shares at a price lower than they should be.

The final disciplines Hagstrom looks at are philosophy and literature.. From philosophy Hagstrom focuses, perhaps too narrowly, on the sub-branch of Pragmatism.The chapter on literature takes a somewhat different approach: rather than explore how specific literary techniques or approaches can provide insight into economics, the stock market, or general thought, Hagstrom makes a general plea for reading as a productive exercise, particularly for investors and those in the finance industry.

In this section, Hagstrom interviews graduates of St John’s College, a liberal arts college that focuses exclusively on a set four year program of intense study of the great books of Western thought. He speaks to graduates of this college who currently work in the finance industry, and it is clear this liberal approach to education has helped them both as investors, and in their personal lives.

One cannot disagree with Hagstrom’s point. But we also believe that while you might lead investors to water, you can’t make them think. A small minority will seek to understand the general principles that lie beneath human existence, and the majority will continue to look for a shopping-list formula that will enable them to get rich quick. Some will live wealthy and productive lives; others might get rich, but will remain shallow and ignorant.

There is no doubt which approach Buffett and Munger adopt. We would have liked a chapter on history, but this is a small complaint, and does not detract from the quality of this book, which has recieved wonderful reviews throughout the world. More than just a book on investment philosophy, it’s a book for those who seek to understand the world about them. Those who approach investing as an exercise of the mind, as well as a way to make money, wil be enthralled by Hagstrom’s thoughts – those who seek only a formula for quick profits will miss the point.

January 22, 2009 - Posted by | Investment Guide

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