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What are within your Circle of Competence? Be brutally honest.


DooDiligence
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None.

 

Why I've outsourced that to Berkshire Hathaway.

 

I'd like to believe that I've the ability to build a coc around low cost manufacturing. Have to work at it.

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My circle of competence: ultra cheap stocks.

 

You don't need a COC if things are so cheap they hit you in the head.

 

As a result of some of those investments, I believe i leaarned something about auto retailing (you buy and sell new and used cars and you service those cars you sold for some years and with that money you get to pay the real estate, and that is pretty much what i know) and casino operating (you have some gamblers which you treat well and you also have some entertainent and culture offering and sell food and drinks, areas where you lose money, to try to captivate some non gamblers to your business, and that is pretty much what i know).

 

The funny thing is that my understanding of circle of competence is that i don't need to know more than that to invest. You don't need to know how to run the business, you just need to know how they make money and which are the key drivers. I believe Buffett also said that some time ago.

 

Ps: WEB had a class at college where he learned the basics of loads of businesses and how they made money. Does anyone know a book I could read to learn those basics? Thank you

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There are (at least) four types of edges you can have as an investor:

 

1.  Informational

2.  Analytical

3.  Psychological

4.  Time frame (patience, long term vs short term)

 

WEB is one of the few investors to ever have an analytical edge in so many areas.  That is why he preaches to 'stay within your circle'.  It may be that his analytical edge is actually in evaluating people and finding good managers to run his various businesses.  He doesn't actually need to know the nuances of every business. 

 

When I study various industries I only realize how much more there is to know and how big my blind spots are.  I'm not going to pretend that I'm any more competent than the next guy. 

 

I'm not saying don't try to learn as much as you can about the businesses and industries where you're investing.  Just know that there's probably already somebody out there capable of better analysis with likely better information.

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Let me be honest. I know nothing.

When I look at a sector and start to get a feel of how to predict earnings and make a few good investments, I start to thing I have circle of competence there. Then after losing a few, I start to think I maybe don't have any.

 

The fact is that this is a probabilistic game and even if I have circle of competence in a sector, that doesn't mean I will make money on every trade, but the term "circle of competence" tend to make me feel like if I stay within the circle, I can make money on every stock I pick. :D

 

In addition, some sector are extremely hard. I remember there was a board member who claims to be an oil and gas expert. He lost a lot of money during the 2014 down turn. The fact is that some sectors are so hard and even if you run the company and you own 100% of its stocks, you could still lose.

 

I think circle of competence is a dangerous term.

 

 

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OTC Stocks - While this is a general area, I believe that I am able to add value here.

 

Mainly because I do not mind spending a significant amount of time figuring out obscure situations. For me, the more obscure, the better.

 

Furthermore, the reliance on macro factors in this space can be efficiently minimized. This then at least partially takes away the need for extensive forecasting.

 

 

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Let me be honest. I know nothing.

When I look at a sector and start to get a feel of how to predict earnings and make a few good investments, I start to thing I have circle of competence there. Then after losing a few, I start to think I maybe don't have any.

 

The fact is that this is a probabilistic game and even if I have circle of competence in a sector, that doesn't mean I will make money on every trade, but the term "circle of competence" tend to make me feel like if I stay within the circle, I can make money on every stock I pick. :D

 

In addition, some sector are extremely hard. I remember there was a board member who claims to be an oil and gas expert. He lost a lot of money during the 2014 down turn. The fact is that some sectors are so hard and even if you run the company and you own 100% of its stocks, you could still lose.

 

I think circle of competence is a dangerous term.

 

Agreed.

 

As it turns out, the Q in this topic is a Reggie question like those posed to Late, Late Show guests (James Corden) & the answer is "you are all correct."

 

Not that I'd ever be a guest on the show (would kill to be invited on Carpool Karaoke), my answer is officially changed to "it's not what, but WHO is in your circle that makes you competent."

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Let me be honest. I know nothing. ...

 

... I remember there was a board member who claims to be an oil and gas expert. He lost a lot of money during the 2014 down turn. ...

 

... I think circle of competence is a dangerous term.

 

muscleman,

 

I hope that you - by my biased quoting here - can see, that this line of posting is counter productive, for the CoBF members on here. If persons active here on CoBF can't post here on CoBF about their losses, and their afterwards reasonings related to that - [without being called out on CoBF this way, like you have done here], we [us, here at CoBF] will all most likely fare less well going forward.

 

The wisdom of the losses [investing failures] are as precious as the wisdom of the gains [investing succeses].

 

- - - o 0 o - - -

 

Please, be nice.

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Let me be honest. I know nothing. ...

 

... I remember there was a board member who claims to be an oil and gas expert. He lost a lot of money during the 2014 down turn. ...

 

... I think circle of competence is a dangerous term.

 

muscleman,

 

I hope that you - by my biased quoting here - can see, that this line of posting is counter productive, for the CoBF members on here. If persons active here on CoBF can't post here on CoBF about their losses, and their afterwards reasonings related to that - [without being called out on CoBF this way, like you have done here], we [us, here at CoBF] will all most likely fare less well going forward.

 

The wisdom of the losses [investing failures] are as precious as the wisdom of the gains [investing succeses].

 

- - - o 0 o - - -

 

Please, be nice.

 

I'd rather not take any "wisdom" from anyone who cannot take a loss and is afraid of being called out on an online forum.

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I think the above term means something different to everyone. For me, it just means sleeping at night knowing what I am invested in and being brutally honest about what my permanent loss probabilities are. There are certain areas of the market I've found much more success investing in than others. Real estate for instance, has great optionality. Additionally, there isnt a single company or person in the world that in one way or another doesn't need real estate. The only times in history its been given away for nothing, the recipients became immensely wealthy. So to me, I understand that there is a certain floor on the value. Where as with things like tech, value is here today and maybe gone tomorrow. So I just don't want to deal with that type of headache; monitoring whether Apple will become the next Nokia or Blackberry. Or whether Blackberry will have an Apple like trajectory and recovery. Too much work to do. Same with oil and gas. Just too many moving parts and external risks. So I guess my circle of competence would be defined as "old economy" businesses. That and I've always had a pretty remarkable ability to rely on a gut feeling that ends up paying off big time. But that's an intangible and not something I can really quantify or articulate in precise terms.

 

I'd also say brutal intellectual honesty and constant reflection are pretty equally the most important aspects of investing. Keeping your psychological state of investing sharp, even keeled and rational is probably even more integral than simply understanding a business. Knowing I'm being greedy and thus likely looking at more speculative investments helps me take a step back and re-evaluate when otherwise maybe I'd pull the trigger thinking I've done my normal due diligence. Knowing I'm pissed at management and tired of an investment might lead me to want to sell when otherwise it's not be the right move. Investing is pretty much 100% a mental game.

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Tough question: my circles of competence (confidence?) are mostly in areas I have worked in, or have a passion for.

 

I don't think I can gain competence just by studying an industry or business from the outside looking in.

 

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When I saw the subject line I chuckled a bit thinking of the Sequoia fund and how they have an analyst whose only job is to study Valeant..... and look where it got them.......  misjudgement about your own circle of competence is more damaging than a lack of circle of competence.

 

 

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I'd also say brutal intellectual honesty and constant reflection are pretty equally the most important aspects of investing. Keeping your psychological state of investing sharp, even keeled and rational is probably even more integral than simply understanding a business. Knowing I'm being greedy and thus likely looking at more speculative investments helps me take a step back and re-evaluate when otherwise maybe I'd pull the trigger thinking I've done my normal due diligence. Knowing I'm pissed at management and tired of an investment might lead me to want to sell when otherwise it's not be the right move. Investing is pretty much 100% a mental game.

 

+++ a million

 

A lot of wisdom in there. Learning about an industry and building a circle of competence around it is one thing and probably which anyone who has the inclination would be able to do so. This mental aspect is really so much more difficult and more likely to cause problems.

 

A few years back coming off the psychological high of BAC LEAPS and then SD LEAPS paying off, I invested speculated in HP LEAPS with very limited analysis (along with a host of other biases) and after Léo Apotheker mess sold them at a loss. Then after it tanked and I got so pissed off at management for their stupid acquisition, that I refused to consider buying them at their lows.

 

Fortunately it is less than a 0.5% portfolio position for me. That taught me the lesson that I hope I would never forget and which Gregmal mentioned above.

 

Vinod

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I started with P&C and Banks/Similar Financials. But I realized it is better to focus on companies with moats at least those you can understand and build up CoC in them.

 

This way you have an answer and working backwards. Much more productive. Rather than learning about industry after industry only to find that it does not offer up many companies with moats.

 

Nothing wrong with learning about industries and at some point you need to do that, but working from a company with moat then learning about its industry seemed to me to be more productive. This applies more to investing in companies with moats.

 

Vinod

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Appreciate what LC alluded to before concerning stuff you know from work, education or experience.

 

But my (limited) experience has been different. Most good ideas have been found in the haystack (start with the letter A concept). As one builds knowledge in order to understand a firm, its industry and its prospects, it eventually becomes possible to define a threshold for competence. In the vast majority of cases however, the perimeter is reached before the threshold. I go along vinod1’s take on spotting the pearl first and then trying to figure out why it’s authentic. And this recognition (border of competence) has a lot to do with the “intellectual honesty” and “mental game” that Gregmal describes and that is likely not correlated with IQ and inversely correlated with greed (and pride).

 

In some cases, the comfort zone may be reached when I would feel confident discussing the industry dynamics directly with management.

 

So, looking for 1-foot hurdles.

 

Opportunistic or simplistic?

 

On mistakes

To make mistakes is part of the game.

When trying to gauge management, evaluating how mistakes are dealt with is determinant.

Aiming to find the balance between confidence and humility.

 

 

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I would say investing in publically listed companies is my circle of competence.  If we mean knowing what to avoid, and the hazards inherent in the process then I am competent. 

 

I have made alot of mistakes in 20+ years of this.  It started with buying FFH above $400/ share in 97/98.  But that mistake taught me how to think about value, and guru investors.  Due to the knowledge I built up I was able to speculate using options on FFH years later. 

 

Some of my worst mistakes: RIMM instead of APPL at exactly the wrong time.  Just to compound that I wrote puts on RIMM and had to buy them back at a loss.  So what did I learn here.  That tech is very hard to predict.  Kudos to those who can do it.  Generally I think its just luck.  Also, I just dont write puts anymore - the probability of a loss outwieghs any potential gains. 

 

Sometimes mistakes are not really mistakes, or show you something you didn't know or consider.  I bought alot of Pennwest when its turnaround started.  Then the commodity price collapse happened.  I sold at a loss and the rest is in the PWT thread.  What did I learn: When buying commodity producers he sure the one you buy is well protected, and you have thought about the downside, and that the downside may be more prolonged and deeper than you have considered.  The same of course applies to companies in any business.

 

2008/2009 taught me that ALL companies will get severely beaten in a downturn.  Every single day I am aware that the sh*t could hit the fan that day, and to have a thought process ready for that.  This extremely long bull market has made everyone very complacent, incuding me to some extent.  The other thing to consider is that the next recovery may not be as rapid as 2009 (initially). 

 

In a general sense, if I can easily define how a company makes its money then its within my circle of competence.  That doesn't mean I will buy the stock at its listed price.  The problem with this is that its also everyone elses circle of competence.  So my only edge is psychological in nature. 

 

 

 

 

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