Welcome to The Southern Capitalist!
Let’s kick things off by discussing a few basic investing principles using one of my favorite comedies, and an all-around fantastic film, Trading Places.
If you’re already familiar with this timeless classic, please bear with me as I bring the others up to speed. Trading Places is the story of a pedigreed and self-righteous commodities trader, Louis Winthorpe III (Dan Aykroyd) whose charmed life is systematically ruined by his maniacal bosses, Randolph and Mortimer Duke (Ralph Bellamy and Don Ameche, respectively) in a test of Nature versus Nurture. After witnessing an attempted robbery, the Dukes decide to take the homeless, would-be criminal, Billy Ray Valentine (Eddie Murphy) under their wing and make him the managing director of their Philadelphia commodities brokerage, while simultaneously framing haughty Winthorpe and throwing him out on the street. Not to give too much away (go see the movie!), but in the end, Winthorpe and Valentine ultimately sniff out the Dukes’ master plan and take their revenge.
Even though Trading Places is mainly an entertaining social satire, the film also lays out several basic lessons that novice investors should always keep in mind before jumping head-first into the markets.
Lesson 1. Be Prepared
“Think big, think positive, never show any sign of weakness. Always go for the throat. Buy low, sell high. Fear? That’s the other guy’s problem.” – Louis Winthorpe III
As our protagonists are preparing for the epic climax of the movie where they finally take their revenge on the Dukes (by cornering the frozen orange juice market), Winthrope tries to prepare Valentine for the “carnage” on display in the New York Commodities Exchange pits. His message is comical and simple, yes, but true: get your game face on. It’s very difficult to successfully manage a portfolio and you need to be well-prepared. For beginner investors, that starts with the basics.
Buying low and selling high has been the ultimate investing cliché for decades, however the time-tested adage still rings true. Further, accurately identifying and timing the purchase of undervalued assets is much easier said than done. This mantra lies at the very heart of value-investing: the practice of selecting stocks that trade for less than their intrinsic value. In his book The Intelligent Investor, Benjamin Graham – the Father of Value Investing – instructs investors to take advantage of emotional market participants by buying when they are depressed (i.e. buying low) and selling when they are overly optimistic (i.e. selling high). It’s a simple principle, but one that would I would be remiss not to mention.
Lesson 2. Don’t Take Anything for Granted (Be A Contrarian)
“One minute you’re up half a million in soybeans and the next, boom, your kids don’t go to college and they’ve repossessed your Bentley.” – Louis Winthorpe III
Delivering the aforementioned line in an iconic scene as he and Valentine approach the New York Commodities Exchange, Winthorpe brings up a great point – no matter how good a particular day (or investment) is going, do not become complacent. Remember: past performance does not guarantee future results. Be a contrarian! As an asset in your portfolio continues to appreciate, ask yourself why. Challenge your ideas and be your own Devil’s advocate. Consider that perhaps the hidden value that you had correctly identified at first has now been fully realized and it’s time to sell. Stocks don’t always go up and to the right forever.
A common trait among successful value-investors is that they all have a contrarian attitude. Contrarian investing is a strategy characterized by trading in contrast with the prevailing sentiment of the time. A contrarian believes that a given herd behavior among investors can lead to an exploitable mispricing. As we have already discussed, this is very much intertwined with the fundamentals of buying low / selling high and seeking undervalued assets.
Lesson 3. Remain Calm
“‘Hey, we’re losing all our damn money, and Christmas is around the corner, and I ain’t gonna have no money to buy my son the G.I. Joe with the kung-fu grip!’…they’re panicking right now, they’re screaming ‘SELL! SELL!’ to get out before the price keeps dropping. They’re panicking out there right now, I can feel it.” – Bill Ray Valentine
This is a big one. With the advent of algorithmic trading systems, a world full of active traders working around the clock, and an endless barrage of talking heads on CNBC telling you when to buy and sell, it’s easy to get caught up in market swings and trade with your emotions. Resist the urge! It is always important to stay calm and maintain a contrarian attitude. Like my Mom always used to tell me growing up: just because everyone else is doing it, doesn’t make it right!
Don’t believe my Mom? Take it from a seasoned veteran and one of my favorite fund managers:
There’s only one way to describe most investors: trend followers. Superior investors are the exact opposite. – Howard Marks
When in doubt, remember the teachings of Benjamin Graham – do not be “Mr. Market”! The emotional investor (Mr. Market) is there to serve you, not to tell you when to invest.
Lesson 4. Live to Fight Another Day
“Get those brokers back in here! Turn those machines back on!” – Mortimer Duke
Maybe it goes without saying, but… don’t bet the house. Never lever yourself to the hilt for a single idea or trade. This may not always be so obvious from the start, but successful value-investing takes time and requires immense patience and discipline. It’s important to remember that the upward journey of an undervalued asset can often be a long, bumpy road full of margin calls and sustained macro-economic / geo-political headwinds. Even when you are 100% right, you can still lose money due to a multitude of unforeseen factors.
When considering the risk / reward proposition of making a large trade, always remember the simple wisdom of this legendary economist:
Markets can remain irrational longer than you can remain solvent. – John Maynard Keynes
Remember to take external factors into account before making an investment. And while I do believe it’s important to be mentally “all-in” on your trades, monetarily that can be a very risky proposition.
Lesson 5. Trust Your Gut
“Pork bellies! I have a hunch that something very interesting is going to happen in the pork belly market this morning.” – Louis Winthorpe III
To come full circle, at the very beginning of the movie, Winthorpe confidently proclaims during his morning shave that an opportunity will arise in the pork belly market. While I certainly don’t condone investing purely on a whim, it is important to buy or sell with confidence. After you run the numbers, study the markets, weigh the risk / reward balance, remember: trust your analysis! As I mentioned before, be mentally “all-in” to your trades. If you can’t confidently attack an idea, with faith in all of your analytical work, then you should probably step away from the trade and crunch the numbers again.
Next time: we’ll continue with our pork belly discussion, as we explore one of my favorite Charlotte barbecue hot-spots!
Trading Places. Dir. John Landis. Paramount Pictures, 1983. Film.
Marks, Howard. The Most Important Thing: Uncommon Sense for the Thoughtful Investor. New York: Columbia University Press, 2011. Print.
Graham, Benjamin. The Intelligent Investor: A Book of Practical Counsel. New York: HarperBusiness Essentials, 2003. Print.