Thoughts On "Investment Hats"

Barry Ritholtz' latest column for the Washington Post is titled The Many Hats of Great Investors and is a must read. Barry outlines the need to be a historian, a psychiatrist, a trial lawyer, a mathematician/statistician and an accountant.

In terms of being a historian, this is something I write about often. I talk about trying to take what I know about history and combine that with what I think is going on to make a forward looking analysis. The counter-argument to this is probably the criticism that looking at history is like driving in the rear view mirror. Obviously I disagree with that as I believe there are certain behaviors and patterns that do repeat. I guess I would add to Barry's comments that using market history is really about filtering what is historically significant versus what is historically insignificant.

Being a psychiatrist means two things; understanding the crowd but also self diagnosing our own fears, biases and hangups is important. Understanding the crowd can tie into history in terms of understand group-panic and group-euphoria. Properly diagnosing your own fears, biases and hangups can prevent you from getting caught up in the widespread panics and euphoria.

The part about being a trial lawyer seemed to be mostly about being skeptical. In being a top down believer I tend to focus my skepticism on bigger picture things like the economy, politics, the broad market and what people saying about these things. At the company level I tend not to assume fraud but I do assume that we are hearing things with the best light shone on them. Using CEO comments to support a thesis is one thing but using CEO comments as the foundation of a thesis is something else (the guy from Infospace who said it would be the first $1 trillion company as a good historical example).

Math and accountancy would seem to overlap a lot and while Barry says the math does not have to be complicated accounting most certainly can be. He does note that you don't need to be a forensic accountant to succeed but I would say a passing grade in a college accounting class probably would help but if you agree with that then I'm not sure how you get to simple math but I may not have understood this point entirely.

There are a couple of "hats" that I would add to Barry's list. The first one ties in with being a self-diagnosing psychiatrist and that is to understand what you really are trying to get out of investing. This will lead you to a more suitable asset allocation and more suitable investment choices. People often take on the wrong amount of exposure to risky assets. This can either too much or too little and include too much in lottery ticket companies. People often change their risk exposures at the wrong time (fear and greed).

As a matter of philosophy I think zooming out to target a result over an entire stock market cycle with the goal being to simply have enough money when you need can go a long way to reducing your portfolio's volatility and being less susceptible to fear and greed.

The other thing I would add to Barry's list is being a global macro strategist. Barry's list leans toward stock selection. While I believe wholeheartedly in using individual stocks, I don't believe in using only stocks and many investors use no individual stocks. Anyone making decisions that involve going narrower than SPY/EFA/IWM needs to make some effort to understand what they buy before they buy it and then follow it some to make sure they continue to understand it.

Yesterday I wrote about replacing Australian ETF exposure (for certain clients) with a combo of the Global X Nordic 30 ETF (GXF) and iShares Canada (EWC). While looking under the hood of the funds is crucial for what I hope are obvious reasons there also needs to be a macro assessment of the exposures involved. To the extent that a portfolio is a mix of individual stocks and funds investors need the traits Barry mentions and a few more.