Big Mistakes summary

The famous investment maxim “buy low, sell high” has endured for a reason; it simplifies one of the most complex industries around with sound logic. But ironically, the man who coined it had an irrational appetite for risk.

Jesse Livermore was born in Massachusetts in 1877. At 23, he moved to New York and secured a stockbroking job, where he made $50,000 in his first week. Things were going well, but soon Livermore made a fatal miscalculation – and it wouldn’t be his last.

Imagine you’ve got a nest egg tucked away. You know investing it is a risky business, but you want to give it a go anyway. You split your money between ten stocks, but soon one crashes to zero and you’ve lost 10 percent of your capital.

But if you’d split your investment between 100 companies, you would’ve lost only one percent. This is diversification: a strategy the Sequoia Fund should’ve paid more attention to.

Mark Twain is one of the great American novelists. He combined a sharp writing style with wry humor and an ability to convey great emotion. And, like many novelists, he put passion before logic in everything he did. In 1893, he wrote “when you fish for love, bait with your heart, not your brain.” Good advice, sure – but with such a visceral mind, it's hard to think of someone more unsuited to investing. Yet that's exactly what he pursued in his spare time.

Twain was constantly searching for the “next big thing” to revolutionize our lives. In his time, he ploughed his fortune into many non-starters – but was particularly infatuated with inventors and their devices.

As a schoolkid, did you ever take a test you were sure you’d fail, only to wind up with a decent grade? If so, you probably felt pretty good about your abilities, and maybe it even encouraged you to stop studying! One possibility you probably didn’t consider, though, is that it was an unusually easy test – just like how Jerry Tsai’s plaudits probably didn’t acknowledge that the 1960s was an easy decade for investments.

Jerry Tsai was managing the firm Fidelity Capital Fund before he’d turned 30. He was a character who exuded confidence; finance’s hot prospect in the 1960s and the first celebrity fund manager. His aggressive investment style involved executing many lightning-fast trades – often instinctive and perfectly timed.

Imagine you’re at a soccer game. To heighten the drama, you decide to place a wager on the outcome. But it’s a tough call - both teams seem equally skilled. Once you place your bet, though, you instantly feel confident about your choice. Suddenly a fan approaches you, offering to buy your bet slip – for more than you wagered. Would you do it?

Well, according to several psychologists, it’s unlikely you would. In a famous paper from 1991, academics Kahneman, Knetsch and Thaler described what they called the endowment effect. This hypothesis argues that we ascribe more value to things simply because we own them. But it doesn’t mean our possessions are inherently appealing – it’s just harder to give them up.

A chess game between two grand masters is a remarkable thing, a master class in grace, accuracy and timing. Grand masters employ elaborate techniques, of course, and above all they orchestrate their pieces to cover vulnerabilities and force errors from the opponent. Just as it is in chess, so it is in finance.

The crucial idea is that professionals in any game rarely make unforced errors – their fate is usually sealed by errors that the situation forces upon them. In contrast, the outcome in contests of novices is determined by their own, avoidable mistakes. Novices shouldn’t focus on winning points – they should focus on not losing points.

Have you ever looked at the price history of Amazon stock? If so, you’ve probably kicked yourself for not realizing this sleeping giant would change the world. After all, an initial investment of $1,000 early on would have netted you $387,000 today! But such thinking is harmful and masks the superhuman nerve that would’ve been required to hold onto your Amazon stock. It was slashed in half on three separate occasions.

And this doesn’t just happen to the financial layperson: short-term losses test the resolve of seasoned investors too, including people like Charlie Munger.