A Conversation with Charles Kirk

Teresa, April 28, 2008 @ 2:08PM ET | Link | RSS | Read via Email | 2 Comments  

Charles Kirk kindly invited me to be his guest for this month’s Q&A. This lengthy interview took us three days of solid work to complete. The complete transcript is at KirkReport.com.

In case you’re been listening to our podcasts, I provided the answer to the Warren Buffett riddle:

Kirk:   Clearly, one of the most important skills an investor can have is knowing what information, research, analysis, and indicators to overlook. Do you have any suggestions or words of wisdom in this regard?

Teresa Lo:   Yes, nothing I have ever come across was satisfactory for what I wanted to do. Some stuff is too general, some too specific. Most of the indicators have no basis in fact, so we can’t expect them to work, or they are an invalid application of analytical tools borrowed from another discipline. Quite often, we don’t even know what they purport to measure. Opinions are not helpful. Forecasting is tricky. The market is a complex system and not easily navigated when viewed in the context of a deterministic, cause and effect mindset.

I want to talk more about the probabilistic mindset, because as you know, many traders swear by Mark Douglas’ book, Trading in the Zone. It is accepted that one must think in probabilities rather than certainties, but my observation is that humans find it exceedingly hard to defy our genetic heritage as hunters. As Spencer Wells put it so eloquently in Journey of Man: A Genetic Odyssey (watch Part 2 and Part 3 on Youtube.com), the quantum leap made by humans 50,000 years ago — the single cognitive advance that allowed our proliferation — was figuring out that a beast out of sight and smell’s range could be found by tracking its footprints. Follow A to B. And that is where the majority of humans are presently situated in their thinking.

The market demands that we make another quantum leap in that there are no certainties in the financial world, only probabilities. Let me give you an example. Most people admire Warren Buffett. He has made money for decades. He seems like a nice old fellow, but underneath it all, he is not a big game hunter. Over time, he has learned how to harness the corporate animal and become a farmer of profits. He thinks outside the box. While the public lambasted Bill Gates during the 1990s, Buffett befriended him and became his bridge partner. In June 2006, Buffett began giving away 85% of his wealth, mostly to the Bill & Melinda Gates Foundation.

Buffett is mentioned twice in Alan Greenspan’s memoirs, once as “my good friend” and the other as “my friend.” Greenie is probably the most maligned central banker in financial history, yet when you read his memoirs, it shows a deep understanding of behavioral economics and reveals his thinking in probabilistic terms. None of this sits well in a world of people who demand to know with certainly how A leads to B, or worse, with the benefit of 20/20 hindsight, they all think they can do better.

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Buffett is quoted on the front cover of Robert Rubin’s memoirs: “It’s a hell of a book. As Secretary of the Treasury, Bob Rubin ranked with the best. This drama-packed account should be read by all who are interested in what happens when politics and economics intersect.” Rubin and Buffett have been friends since the 1960s. They had regular breakfast meetings and after leaving the Clinton administration, Rubin sought out Buffett’s advice.

It seems to me that Buffett would not be friends with, let alone give his billions to, people of doubtful character. He would not play a game that was rigged. What does he see in these people and the capital markets that the vast majority of the public cannot? I think the title of Rubin’s book gives us a hint. He agreed to write the book due to overwhelming feedback to Keeping the Boom From Busting. People wanted to know more about the probabilistic way he had approached the decisions in his career. This book is a real eyeopener to many of the critics, because it turns out that, at the end of the day, Buffett, Gates, Greenspan, Rubin and their proteges are intellectuals and very well-informed professionals doing the best they can… In an Uncertain World. Traders are never given an embarrassment of riches; we only get to make the “least worst” choice in a fluid situation.

Kirk:   Everyone makes mistakes (and some more than their fair share). Looking back over the past few years, can you recall a mistake you’ve made and what you’ve learned from it?

Teresa Lo:   For a long time, I too, thought that trading was the only way to avoid market dislocations. Also, when I got into the business, I fell to Spinoza’s conjecture and started to parrot all the Fed bashing, “Plunge Protection Team” and conspiracy theories that is so prevalent today. What I know now is that people who fail to make money in the market need an excuse for their failure rather than admit they have no method. But as you know, active management is a $100 billion a year industry and people will do anything to deflect the fact that they depend on luck over skill to keep collecting the fees. What I learned is that almost everything I heard about trading and portfolio management in the mainstream was a myth.

Kirk:  Ah, this is why I like reading your blog Teresa. You say what needs to be said! It is so important for all of us to understand this very important point within the context of all of the opinions about the market we must sort through on a daily (if not hourly) basis. Thank you for having the guts to say it.

Further Reading

A Conversation with Charles Kirk

Teresa, April 28, 2008 @ 1:29PM ET | Link | RSS | Read via Email | Start a Discussion  

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Portfolio Strategy for April 28

Teresa, April 27, 2008 @ 5:07PM ET | Link | RSS | Read via Email | 9 Comments  

This article is exclusive to subscribers. Did you know that a subscription to Portfolio Strategy, which includes InVivo.RMI trading tools, costs only 53 cents per day?