God and Insurance
I came across a very interesting quote while reading The Joys of Compounding by Gautam Baid and I haven’t been able to stop thinking about it. (As for the book, its a must read for everyone in Banking , Investments or Finance)
The statement is by a 17th century French Mathematician, Inventor, Physicist, Writer & Catholic Theologian. He writes “if there were only a tiny probability that God truly existed , it made sense to behave as if he did because the rewards could be infinite whereas the lack of belief risked eternal misery”.
This so beautifully expresses the idea of God in a probabilistic manner and that is why it may not appeal to many reading this blog and also has a lot of critics bashing his theological work called Pensées (Thoughts) where this statement was made.
But if you read it again objectively, it expresses the concept of an Insurance Policy taken on Life and the premium to be paid is good conduct as if you were being watched all the time. And if good conduct was at play at all times, you might get rewarded handsomely with economic and personal benefits that could be way more than your wildest imaginations. But if good conduct was lacking, then the consequences could be severe.
Taking away the spiritual or theological angle to this statement, the statement hints at thinking about risks, its probabilities and its payoffs . Let’s consider a simple insurance policy on your car. When you own a car, you are exposed to the risk of an accident, damaging the car, hurting yourself or seriously injuring someone else. The liability of this risk materialising could be more than the cost of the car . Is it sensible to carry this risk on your head , when you do have an option of transferring the risk to an insurance provider — ABSOLUTELY NOT !!
The practicality of care insurance product makes it a mandatory requirement for almost all car owners worldwide. The peace of mind and no stress regarding damages or third party liabilities is an added bonus . This makes driving a joyous experience instead of driving at 20 kmph only to be cautious and extra safe in avoiding accidents of any kind. This would be such a drab.
Unfortunately similar behaviour goes missing in many other aspects of significance. Take Investing for that matter . I have a few friends that have recently invested in Zoom and Boeing. Former because the whole world had shifted onto online video based communications due to COVID19. And latter because expectation was and still is for Government support to ensure Boeings survival. But when I asked about the reasons to invest at these elevated price levels for Zoom and at such risky times for an Aviation stock, my friend couldn’t produce the fundamental information on which he could base this decision . It was purely executed because he thought so on basis of news around these companies and it felt the right stocks to buy.
As scary as this may sound , this same reasoning is applicable for millions of investors buying stocks, commodities, currencies, crypto and other investable assets by just a few clicks on their mobile phones and laptops. The comfort of technological innovations doesn’t make the process of successful investing easier. The uncertainty of the future is high , hence the risk is high, the probability of this risk materialising is high and hence the chances of handsome payoffs from this market is low. People would still make money but if the floor slips, many would lose (a lot) like it always happens in a crash.
This is where Margin of Safety comes in. As Warren Buffet says “You have to have the knowledge to enable you to make a very general estimate about the value of the underlying business. But you do not cut it close. That is what Ben Graham meant by having a margin of safety. You don’t try to buy businesses worth $83 million for $80 million. You leave yourself an enormous margin. When you build a bridge, you insist it can carry 30,000 pounds, but you only drive 10,000 pound trucks across it. And that same principle works in investing.The function of the margin of safety is, in essence, that of rendering unnecessary an accurate estimate of the future.”
This doesn’t need rocket science but it still needs understanding of valuation models, company’s competitive advantage, quantitative metrics like ROE & ROIC, management quality and its execution , its reinvestment rate of returns. All this information may not suffice if you cannot interpret the market trends and the industry mapping that could make you understand the Porter’s 5 Forces applicable to the company in this specific industry .
As exhaustive amount of work this may sound like, this is bare minimum requirement to become a qualified analyst who has the requisite skills in picking stocks or making recommendations or managing portfolios for clients or institutions. Same skills , some less and some more, apply to all asset classes. But in the age of Robinhood, Saxobank, Kotak Securities, ICQOption and others , these essential skills are being ignored and new investors are diving into making purchases on basis of emotions of greed and optimism.
The video above gives you a sense of what is happening in Investments . Its the show, the glam, the fame, the rise to the top , I Have A Dream kinda story in the making being marketed and sold by youtubers and vloggers and the twitterati. This seems like the tech version of Euphoria that precedes every bear market taken place in history.
The risk to this Investing Strategy is permanent loss of capital, the probability is uncertain but high since valuations make no sense for many companies and the payoff could be bad if you carry this risk on your head without insuring it. Sometimes insurance could mean DOING NOTHING as some investors have chosen to do in markets currently. Insurance for some is the FORT KNOX strategy of Warren Buffet which allows for huge holdings in Cash, prepared for a rainy day if it comes. Insurance for some is to move out of Public Equity Markets and focus on Venture Capital and this is being done by GMO Founders . Insurance for some is Quant based Trades which have been made famous by Jim Simmons of Renaissance Technologies (I just purchased a book on him by Gregory Zuckerman) .
What’s your Insurance Policy ? Whats the premium your paying ? Is the Insurance covering you from the damage this risk can expose you to ?
This is a very fundamental way of thinking about everything, if you seek to come out profitable and stronger from any situation or endeavour that you walked into . Risks, Probabilities & Payoffs makes the Tripod of Effective Decision Making.
There is a risk writing blogs and putting it up on Twitter, Linkedin, Emails, Whatsapp and sharing with people I know. That risk is being trolled, negative comments, disappointment, discouragement, upsetting someone, irritating someone with my blog notifications, challenging someone’s way of thinking and in worst case scenario getting blocked by the recipient (this too has already happened ;) . The probability for the same happening is 20:80 since I am not a prolific blogger, nor eloquent in my expression in this beautiful english language and still miles to travel in quantifying my posts to give it a semblance of an Investing Blog.
The most important question is whats the payoff . Its HUGE !!!! I could have my own fanbase that likes my work, I could take ideas and share with people so they could benefit from the same , I could start my own newsletter one day, I could have my own podcast related to a niche in Investing, I could run my own community like Shane Parish does, etc. The options are huge . And all this can be done while I pursue further studies or a career as a Banker or a Research Analyst or a Portfolio Manager.
Is the risk worth taking — YOU BET !!!
Taking risks keeps you young. Thinking in terms of Probabilities & Payoffs keeps you rational in your decision making abilities. Good decisions lead to good outcomes, on an average if not always. And if your batting average is good, profits and personal development is a certainty.
To sum it up, I will again quote Benjamin Franklin “Many people die at twenty five and aren’t buried until they are seventy five.”. I wanna be Forever 25 and hence I love experimenting with ideas. I invite you to do the same, rationally though. It makes decision making much easier and profitable.
Love
Manish