HAGSTROM
praise for
investing: the last liberal art
“Charlie Munger has a prescription for anyone hoping to succeed at investing: read a lot, and on diverse subjects. Investing: The Last Liberal Art gives the reader a great deal of useful material from a wide variety of fields, which can help us greatly to understand the investing process. I found Robert G. Hagstrom’s chapter on the role of psychology in investing—my great interest—particularly valuable.”
investing:
— Howard Marks, chairman and co-founder, Oaktree Capital Management, author of The Most Important Thing
is chief investment strategist and managing director for Legg Mason Investment Counsel. He is the author of eight investment books including the New York Times best-selling The Warren Buffett Way. He is also the author of The Warren Buffett Portfolio: Mastering the Power of the Focus Investment Strategy, The NASCAR Way: The Business That Drives the Sport, and The Detective and the Investor: Uncovering Investment Techniques from the Legendary Sleuths. Hagstrom lives with his family in Villanova, Pennsylvania.
the last liberal art
r o b e r t g. h a g s t r o m
second edition
“Successful investing requires hard work and mental acuity. Investing allows you to approach the task with a full set of power tools instead of a simple screwdriver. Hagstrom masterfully makes the case for a multidisciplinary approach and then equips you with a dazzling array of ideas from essential fields of study. I wish I could have read this book twenty-five years ago.” — Michael Mauboussin, author of More Than You Know and The Success Equation
praise for the first edition “Investing is a brisk and engaging read. It is a pleasure to be in the presence of Hagstrom’s agile mind. But while Hagstrom’s model of the market as a complex, irrational, and ultimately human emanation is provocative, the book is most successful as an educational manifesto.” — THE New york times
cup.columbia.edu
Printed in the U.S.A.
9 780231 160100
york
the last liberal art
$27.95
robert g. hagstrom is one of the best-known authors of investment books for general audiences. In Investing: The Last Liberal Art, he explores basic and fundamental investing concepts in a range of fields outside of economics, including physics, biology, sociology, psychology, philosophy, and literature. He discusses, for instance, how the theory of evolution disrupts the notion of the efficient market and how reading strategies for literature can be gainfully applied to investing research. Building on Charlie Munger’s famous “latticework of mental models” concept, he argues that it is impossible to make good investment decisions based solely on a strong knowledge of finance theory. For this second edition, Hagstrom reinforces his concepts with additional data and a new chapter on mathematics. In addition, he updates the text throughout to reflect the cause and effect of the economic and capital market volatility over the past decade. He has also added one hundred new titles to the invaluable reading list that concludes the book.
the wisdom of crowds
52795
/ new
INVESTING
— James Surowiecki, staff writer at the new yorker and author of
ISBN: 978-0-231-16010-0
columbia university press
— Praise for the first edition from Peter L. Bernstein, author of Against the Gods
“Elegant and irresistible. Hagstrom makes the complex clear as he confidently crisscrosses through the disciplines of finance, biology, physics, and literature. The only way to understand investing better, [Investing] shows, is to understand the world better. Ideas spark off the page at every turn. This is simply a gem of a book.”
$27.95
Jacket Design: Noah Arlow
“I read this book in one sitting; I could not put it down.”
Robert G. Hagstrom second edition
Pre f ac e
In 2000 , I wrote a book then titled Latticework: The New Investing. It was a liberal arts interpretation of investing, inspired by Charlie Munger’s lectures on the art of achieving what he called “worldly wisdom.” For those who don’t know Charlie, he is vice-chairman of Berkshire Hathaway and investment partner to Warren Buffett, who is, arguably, the world’s greatest investor. Latticework—the title—was deliberately chosen to make clear its linkage to Charlie’s approach. His concept of a “latticework of mental models” is w ell k nown to i nvestors a nd i nstantly i dentifiable. Or s o I t hought. I have si nce learned t hat authors a re b est at w riting b ooks but ma rketing professionals are best at titling and publicizing them. In the year following the publication of Latticework, the publisher decided to relaunch the book as a paperback with a new title—Investing: The Last Liberal Art. Result? A definite s pike in in terest in t he b ook. Then, w hen C olumbia U niversity Press asked if I would be interested in revisiting the original work with a second e dition, I i mmediately ac cepted t he o pportunity. On e, b ecause I deeply believe in the values and lessons of the book but more importantly, because of the amount of new knowledge (new to me, at least) that I have gained over t he past de cade. For one sma ll example, t here are about one hundred new entries in the Bibliography.
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P R E FA C E
The overall st ructure of t he book is t he same. We t ake a l ook at t he major mental models in physics, biology, sociology, psychology, philosophy, a nd l iterature. To t hat w e ha ve adde d a n en tirely n ew cha pter o n mathematics. The book then concludes with a chapter on decision making. For those who have read the first edition, you will revisit many of the classical m odels, but y ou w ill a lso r eceive subst antially n ew k nowledge a nd understanding based on new material in each chapter—proof positive that learning is a continuous process. Keep one thing firmly in mind: this is not a how-to book on investing. You won’t find a new set of step-by-step instructions on how to pick stocks or manage your portfolio. However, after reading this book, what you will have, if you are willing to spend some time with challenging ideas, is a new way to think about investing and a clearer understanding of how markets and e conomies work. It i s a n u nderstanding der ived n ot f rom t he e conomics a nd finance textbooks, but f rom t he ba sic t ruths embedded i n a number of seemingly unrelated disciplines, the same disciplines you would find in a classical liberal arts education. To de velop t his n ew u nderstanding, y ou a nd I w ill wa lk tog ether through those areas of knowledge, investigating the basic and fundamental concepts in each field. Sometimes we will begin with a historical overview to see how the concepts originated and then move forward; always we shall examine how those concepts relate to investing and the markets. One chapter at a time, one piece at a time, with some of the greatest minds of all time, we shall assemble a new and original way to think about investing. I must confess that writing this book was difficult. It required delving deeply into several disciplines and then distilling the essence of each into one sh ort cha pter. The d iscussions a re, o f n ecessity a nd w ithout u ndue apology, both brief and general. If you happen to be an expert in any one of t hese d isciplines, you may quibble w ith my presentation or may conclude I have omitted certain concepts. However, I hope you appreciate that to do otherwise would have resulted in a book with chapters one hundred pages long and a final manuscript equal in proportion to an encyclopedia. While w riting t his book, I c ame to b elieve it wa s fa r more i mportant to deliver an abbreviated sermon to a larger number of people than to restrict its overall message to t he few who would be w illing to t ackle a d issertation. For this reason, I hope you will recognize it was necessary to limit the descriptions in each discipline to the very basics. Even so, many readers may find that reading this book is something of a challenge, no less than the writing was for me. It was challenging on two
P R E FA C E
ix
levels. First, some of the chapters may deal with disciplines that are unfamiliar to you, and reading them may remind you of an intensive collegelevel seminar. Nonetheless, it is my hope that you will find the exposure to new ideas stimulating and rewarding. Second, because each chapter presents a completely different field of study, the total benefit of the book may not be fully clear until you reach the end. It is a cumulative process, with each chapter adding a new layer of ideas. I have tried to point out common themes and mental links, but my comments are no substitute for your own personal r evelation t hat w ill co me f rom c areful st udy a nd t houghtful reflection. Reading this book requires, then, both an intellectual curiosity and a significant measure of patience. In a world that increasingly seeks to solve our needs in the shortest amount of time, this book may be an anomaly. However, I ha ve a lways believed t here are no shortcuts to g reater understanding. You simply have to work through the basics. This broad-based approach to u nderstanding is the heart of a l iberal arts approach to investing. It is no longer enough to just acquire and master t he ba sics i n ac counting, e conomics, a nd finance. To ge nerate go od investment returns, I believe, requires much more. It is driven by a keen mental appetite to discover and use new insights regardless of what Dewey decimal number they bear or how unrelated they may at first appear. Mistakes in investing most often occur because of investor confusion. In my opinion, the basic investment lessons we have learned thus far have not given us a complete view of how markets work or how investors operate within markets. No wonder we’re confused. No wonder we make mistakes. When we don’t understand something, there is always a fifty- fifty chance w e w ill ma ke t he w rong de cision. I f t his b ook i mproves, e ven slightly, your understanding of investing and how markets work, then the odds of success will tilt in your favor. Robert G. Hagstrom Villanova, Pennsylvania September 2012