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The Wise Man and the Fool

I love the idiom, “What the wise man does in the beginning, the fool does in the end.”

Some say Warren Buffett said it first. But Warren says he pulled it from an “old story.” Who knows?

What Does It Mean?

The statement is especially true in investing.

A “wise man” makes smart moves, presumably. But a “smart move” might not be smart forever.

An investment can be wise when you’re the only one who knows about it. But once the whole world is wise to that investment (pun intended)…well, then it’s foolish to invest.

Some Wise/Foolish Examples

There are too many good examples to count.

Let’s start with ARKK, recently featured here on The Best Interest. ARKK was a great investment in early 2020. It rose 200% over its next 12 months. Amazing. The advice “buy ARKK” was incredibly wise in 2020.

But since early 2021, ARKK is down 70%. It’s been terrible. That same “buy ARKK” advice was foolish. Of course, those 2021 investors didn’t know they were being foolish. They didn’t intentionally lose their shirts.

ARKK – 5 year performance

But it goes to show – what the wise man did in the beginning, the fool did in the end.

Now that ARKK is down 70% off its highs, perhaps some “wise” folks are pouring back in? I’m not sure. But markets are frequently cyclical in that way.

And then there’s the “Nifty Fifty.” These were 50 U.S. large-cap stocks in the 1960s. They were deemed so “blue-chip” (a.k.a. really, really good) that they could be bought and held forever. Companies like American Express, Dow Chemical, Kodak, Coca-Cola, and McDonald’s.

Many investors bought and bought and bought. They believed “no price was too high” to buy the Nifty Fifty. The companies’ “inexorable earnings” would justify any purchase price.

Those investors’ buying propelled the Fifty’s prices even higher. McDonald’s price-to-earnings ratio got up to 71. Polaroid’s was 94. For reference, the average historical S&P 500 PE is 17.

And in 1973-74, the market crashed. Most of the Nifty Fifty dropped by 70% to 90%. They got shellacked.

Investing in the Nifty Fifty seemed so wise. These were the biggest and best companies on Earth! But at certain prices, buying into the Nifty Fifty became amazingly foolish. (For what it’s worth, those who held onto their Nifty Fifty investments through the crash ended up ok.)

These two examples—ARKK and the Nifty Fifty—inspire two incredibly important points…

1) Price Matters!

First, price matters.

I want to sell you my car. It’s in wonderful condition. Not too many miles on it. The seats are clean. No dog fur, I swear. Feel free to take it for a test drive!

Are you interested?

If there’s one question you’d ask me in reply, I hope it’s: “what’s the price?”

It might be a good car. But is it a good deal? That depends 100% on the price!

This isn’t rocket science. Yet many investors forget this all-important lesson. An investment is only “good” or “bad” as a function of its price.

Most ratings agencies (Moody’s, Standard and Poor’s, etc) will call a B-rated bond, “not of investment quality.”

Fine.

But if I handed you a pile of free B-rated bonds, it would be the single best investment of your life. Why? Because of the free price!

Similarly, the Nifty Fifty were the greatest corporations in the history of mankind. But when priced at 80x earnings, they were terrible investments.

Only the fool believes that price doesn’t matter.

2) When Does the Music Stop?

And the second point – timing is hard!

Recall the all-important quote for today: “what the wise man does in the beginning, the fool does in the end.”

Well – when exactly does “beginning” become “end”?

Can we see it? Feel it? Do the numbers tell us? Which numbers?

I like Warren Buffet, and he loves the idea of Cinderella at the ball…

“…but that gets back to the question of Cinderella at the ball. You’re there, you’re having a wonderful time, the punch bowl is flowing. The dance partners are getting prettier all the time. But you know at midnight it’s going to turn to pumpkins and mice.

You look around the room and you think, “One more dance. One more good-looking guy. One more glass of champagne.”

And you think you’re going to get out of there at midnight. Of course, everybody else thinks they’re going to get out of there at midnight too.

And in the end, it does turn to pumpkins and mice.

…The problem for this particular dance, for Cinderella, is there are no clocks on the wall.”

Let that last line ring in your minds…there are no clocks on the wall.

New investors consistently assume that the right time to buy or sell must be obvious. It’s not. The punch bowl of investor euphoria clouds their judgment. And it only clears up in the rear-view mirror. Call it “morning after” sobriety.

But since they think there must be a “clock on the wall,” they’re fooled into telling the time. Mr. Market screams sell, so they sell. This is the antithesis of a long-term investor.

One More Wise Man

Josh Brown recently turned me onto this quick clip. I think it’s appropriate here.

Wise times pass into foolish times. And foolish times pass back into wise times. Bulls and bears come and go. This too shall pass.

When you get a “hot stock pick” or follow a huge trend, ask yourself: are you being wise…or a fool?

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-Jesse

Want to learn more about The Best Interest’s back story? Read here

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2 thoughts on “The Wise Man and the Fool”

  1. Well written and interesting.

    Timing and figuring out a good price is hard for individual stocks. In my individual stock days I tried to figure out the best price and make correct timing calls for buying and selling. I had a bad habit of waiting hoping a holding that lost value would bounce back “this too shall pass!”. Unfortunately a number of my stock holding went to zero with that strategy.

    That has led me to become a total index investor. I don’t have to worry about prices, picking the winners or losers or timing anymore. Buy the market at the market price when I have money to invest. A great feature of index investing is the self cleaning of the index as companies get listed and delisted. Jack, Charlie and Warren seem to agree sticking to a broad-based index like the S&P 500 is going to beat the average investor over the long run. It’s too hard to pick the right price or time the market so I don’t. I am hoping in the long run to be above average.

    Time will tell.

    1. Thanks for sharing, Tech!

      I’m with ya. You have got to be such an expert to routinely beat the index over decades. It’s a tall task.

      And why bother? Average returns are pretty good!!

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