Foreword:

This article is translated from Chapter 14, Charlie, of Big Mistakes: The Best Investors and Their Worst Investments. How does Munger treat the pullback in investment correctly? The content of this chapter describes a slightly cruel reality of the market, that is, both a long-term upward market and a long-term upward company will inevitably experience significant downward fluctuations, which is very similar to the current market environment.

However, it is not easy for any investor to face it calmly when suffering market losses. As a great investment mentor, Munger's personal experience gives us a good reference on how to really have patience, discipline and the ability not to go crazy even in the face of losses and adversity.

Learn to bear losses

You need patience, discipline and the ability not to go mad even in the face of loss and adversity.

-Charlie. Munger, 2005

There is no doubt that Netflix Inc, Amazon.Com Inc and Alphabet Inc-CL C are the three most successful companies in the past decade. Their products have profoundly changed our way of life, and if their shareholders can hold on to their shares for a long time, they will also get a huge return on investment.

However, one of the oldest financial laws is that returns always go hand in hand with risk. If you want to make a huge return on your investment, you are destined to take the risks that come with it.

Since its first listing in 1997, Amazon.Com Inc's share price has risen as much as 38600 per cent, equivalent to a compound annual return of 35.5 per cent. This means that the initial investment of $1000 will become $387000 today. But in fact, in the past 20 years, it has been difficult to turn that $1000 into $387000. Amazon.Com Inc's share price has fallen more than 50 per cent three times in history. For the first time, from December 1999 to October 2001, it lost 95% of its market value. During that time, the initial assumption of $1000 in investment will fall from a high of $54433 to $3045, a loss of $51388.

That's why it's not easy to say that you can buy and hold a long-term winner. Maybe you do know that "Amazon.Com Inc will change the world", but even so, it won't make it easier to invest.

Netflix Inc, another revolutionary company, has a compound return of 38 per cent since it went public in May 2002. But the realization of this return is almost beyond the investment discipline that people can bear. Netflix Inc's share price has fallen more than 50 per cent four times, falling more than 82 per cent between July 2011 and September 2012. This is equivalent to an initial investment of $1000 to $36792, then shrinking to $6629. Can investors really tolerate the withdrawal of their initial investment more than 30 times? In particular, 500% of the income disappeared in just 14 months!

Alphabet Inc-CL C is the youngest of the three, with a compound annual return of 25 per cent since going public in 2004. He provides investors with a better investment experience than holding Amazon.Com Inc or Netflix. Alphabet Inc-CL C's share price fell more than 50 per cent only once, by 65 per cent between November 2017 and November 2018.

When his share price rebounded sharply, many investments could not stand this period. In these 264 days, Alphabet Inc-CL C's turnover reached 845 billion US dollars, while Alphabet Inc-CL C's average market capitalization at that time was less than 153 billion US dollars. In other words, stocks have changed hands 5.5 times during this period, depriving many investors of a 515% return over the next eight years.

Charlie Munger has never been interested in investing in companies like Amazon.Com Inc, Netflix Inc and Alphabet Inc-CL C. But the companies he has invested in for a long time that have given him huge investment returns have also seen a huge pullback in a short period of time. Munger, vice chairman of Berkshire Hathaway, is known as a long-time partner of Warren Buffett. His famous sayings full of wisdom and philosophy are collectively referred to as Mungianism.

He likes to think from many angles with different ways of thinking, and one of his famous quotes is "if I knew where I was going to die, I would never go there." "people count too much and think too little," he said at Berkshire Hathaway shareholders' meeting in 2002.

What distinguishes Munger from most of us mediocre people is that he will never be attracted to investments outside his circle of abilities. He once said, "We have three baskets, which are entry, exit and too difficult." Investors should follow his advice: "if the investment target is too difficult to analyze, we will turn to other investment targets." What could be easier than that? ".

Today, there are a lot of new products for investors in our market. These products are like those purple and green baits: I think the reason why our investment management is in trouble is as revealed in the following conversation with the fishing gear owner. I asked him, "Oh, my God, these purple and green baits!" Will the fish really take the bait? He said, "Sir, I don't sell fish."

In 1948, Munger graduated from Harvard Law School and followed in his father's footsteps to successfully develop a legal career. In Munger's early investment career, he earned his first million dollars by investing in real estate projects.

His enthusiasm for investing was thoroughly ignited in 1959, when Ed Ed Davis introduced him to Buffett as one of Buffett's first investors. Buffett was surprised that he easily got $100000 from Ed Davis because Davis didn't seem to care much about Buffett's investment strategy.

The reason for this is that Buffett is a lot like Charlie Munger, another investor Davis trusts wholeheartedly. The two are so alike that Davis once filled in Munger's name on a check for Buffett.

Munger and Buffett hit it off. After years of communicating, learning and sharing with Buffett, Munger founded a law firm with other partners in 1962 (Munger,Tolles&Olson Charlie left in 1965), as well as a hedge fund company (Wheeler,Munger&Company).

Munger's investment performance is remarkable. From 1962 to 1969, the fund returned an incredible 37.1 per cent a year before deducting fees. Especially when you look at the market environment at that time, this achievement is even more commendable.

In these eight years, picking stocks is not an easy task. In fact, the s & p 500 index (including dividends) is up only 6.6% at the same time. During the 14 years of existence of the entire fund, Munger's average annual return was 24%, and the compound rate of return was 19.82%, much higher than the index, while the compound return of the S & P 500 index (including dividends) was only 5.2% over the same period. Munger's limited partners will make a lot of money if they stick with Munger, but it's not as easy as holding on to Amazon.Com Inc all the time.

One of the best lessons investors can learn from past history is that there can be no good times without bad times. In a long-term investment, there are often short-term and periodic large losses. If you can't accept short-term losses, it's hard to reap long-term market returns. Munger said:

If you are not comfortable with two or three or more market falls of more than 50% in a century, you are not fit to invest, and you can only get relatively mediocre returns compared with investors who can handle market fluctuations rationally.。

Warren Buffett once said of Munger: "he is willing to accept greater ups and downs in performance, and he happens to be a person whose psychological structure tends to be concentrated." Of course, Munger is not simply focused, his focus is based on a higher level of pluralistic thinking.

At the end of 1974, 61% of its money was invested in blue-chip printing companies. The company did serious damage to Munger's portfolio in the worst bear market since the Great Depression. Sales of blue-chip printing companies exceeded $124 million that year.

But it soon began to decline, and by 1982, sales had plummeted to $9 million, to just $25000 in 2006. "considering the initial business of the blue chip printing company," I predicted that its sales would fall from $120 million to less than $100000, so I predicted from the beginning that its business alone would almost be a failure.

However, the blue chip printing company, as an important asset of the fund investment, later provided a lot of money for the acquisition of Candy Candy, Buffalo Evening News and Wesco Financial, and was incorporated into Berkshire Hathaway in 1983.

Munger lost 31.9% in 1973 (compared with-13.1% in the Dow Jones industrial average) and 31.5% in 1974 (compared with-23.1% in the Dow).

"We were crushed by the market between 1973 and 1974, not because of true undervaluation, but because our publicly traded securities had to be traded at less than half their true value," Munger said. "it was a difficult experience-from 1973 to 1974 was a very unpleasant experience. "

Munger is not alone, and it has been a difficult process for many great investors. Buffett's Berkshire Hathaway fell from $80 in December 1972 to $40 in December 1974. In the bear market between 1973 and 1974, the s & p 500 fell 50% (the Dow Jones industrial average fell 46.6%, straight back to 1958).

The $1000 invested with Charlie Munger from January 1, 1973 will become $467 by January 1, 1975. Even though the fund rose 73.2% in 1975, Munger lost its biggest investor, which frustrated him and led him to make the decision to liquidate the fund.The fund earned a compound return of 24.3% before deductions throughout its life cycle, even after a brutal historical period from 1973 to 1974.

It is not just those star stocks that will fall by more than 50%. Indices with long-term compound growth are also likely to pull back at some point. The Dow has risen 26400% since 1914, including nine pullbacks of more than 30%. The Dow fell more than 90% during the Great Depression and did not return to its 1929 high until 1955. The Dow, as a blue-chip index, suffered two sharp pullbacks in the first decade of the 21 century (down 38 per cent during the bursting of the technology bubble and 54 per cent during the financial crisis).

For most ordinary investors like you and me, if we are looking for a high return on investment, then huge losses are bound to be part of it, no matter how many years or a lifetime the investment cycle is. Munger once said, "We are keen to keep it simple." You can simplify everything you want, but it won't keep you away from losing money. Even the equity and bond portfolios of 50 to 50 lost 25% during the financial crisis.

There are several ways to deal with losses. The first is that the loss is absolute, that is, your investment loss.In Munger's case, he rarely has an absolute loss. During his management of his hedge fund, he experienced a 53% decline, and his Berkshire Hathaway shares fell more than 20% six times. For those who are not familiar with it, a pullback is a downward move from a high point. In other words, Berkshire Hathaway fell more than 20% after hitting an all-time high six times.

The second type of loss is relative, that is, your opportunity cost.When Internet stocks swept the country in the late 1990s, Berkshire did not invest in it. It also made them pay the price. From June 1998 to March 2000, Berkshire fell 49%.

More painfully, however, Internet stocks continue to soar. Over the same period, the Nasdaq 100 index rose 270%! In a 1999 letter from Berkshire Hathaway to shareholders, Warren Buffett wrote that "relative earnings are our concern, and over the same period, poor relative returns have resulted in unsatisfactory absolute returns."

Whether you are investing in stocks or indices, poor relative returns are a problem in investment. Berkshire Hathaway's earnings lagged 117% behind the s & p 500 during the five-year dotcom bubble. At the time, many people questioned whether Munger and Buffett were out of touch with the new world.

The reason why Munger's wealth has continued to grow in compound over the past 55 years is, in his own words:Warren and I are not wizards. We can't play chess blindfolded or become pianists. But we have achieved remarkable results because we have an advantage in temperament, which is enough to make up for our lack of IQ.

You must be able to deal with the loss calmly. The right time to sell is not after the stock price has fallen. If you invest in this way, you may not be doomed to get a good long-term return. Learn from history and don't try to avoid losses. Loss is inevitable. Instead, focus on making sure you are not forced to sell. If you know that stocks have fallen by more than 50%, there is no doubt that this will happen again in the future, please make sure that you can face and bear this situation in the future.

How to do it? Here's an example. Suppose your portfolio is worth $100000 and you know you can't stand a loss of more than $30, 000. Suppose that if the value of stocks is halved and the value of bonds will be retained (this is an absolute assumption, there is no guarantee), then do not allocate more than 60% of equity assets. Then even if those 60% of your assets fall by half, you should be all right.