Source: Qilehui

1. The primary consideration for smart investors is never how to make money, but rather how to never lose money.

2. Although financial analysis can often be complex and tedious, its thought process is not much different from going grocery shopping.

3. Focusing on value rather than price must become an investor's instinctive thinking strategy; it must become an investment discipline.

4. Fear causes rational people to ignore the financial realities that determine stock prices. When fear replaces reasonable analysis as a defining factor of stocks, it often triggers actions, with most people wanting to sell.

5. Buy in panic, sell with confidence. This is what good traders and investors do.

6. Those who have lost the most, at least in the stock market, are often the most anxious to recover their losses.

The above views come from Steven Sears, a senior financial columnist for the American magazine Barron's, summarized in the book "The Relentless Investor." As one of Wall Street's keen observers, Sears offers some insightful points on how ordinary investors can defend themselves, avoid the traps of the capital markets, and increase their chances of investment success.

Firstly, he reminds of several common misconceptions that lead investors to fail. For example, confusing price and value, always selling out of panic, and overtrusting the media-packaged legends of stock market gurus. He admits that those who suffer the most losses are usually the ones most eager to recoup them.

Secondly, he believes that there is a huge difference in mindset between poor investors and successful investors: one mindset can lead investors to give back profits and all or part of their original capital to the stock market, while another mindset can help investors retain most of their profits.

Finally, he emphasizes through the contrarian investment case of John Paulson that it is "contrarian thinking" that represents the correct investment thought process: "Contrarian thinking is like a submarine's sonar; it helps you overcome fear and reminds you not to be greedy."

1. Misconceptions of Failed Investors

1. Cannot distinguish between price and value

In the financial world, price and value are treated as synonyms. When you examine the market from the perspective of price and value, you will gradually discover an "margin of safety."

The important concept of margin of safety was proposed by Benjamin Graham, Buffett's teacher.

The difference between the intrinsic value of stocks and the market price is referred to as safety margin. The intrinsic value is the value derived from financial analysis, which is different from the market price.

Although financial analysis is often complex and tedious, its thought process is not much different from going to the grocery store to buy items.

If a can of beans costs 1 dollar, you would never pay 50 dollars for it. However, this simple distinction often becomes blurred in the stock market.

In the stock market, analysts from several major Banks give strong Buy recommendations for the 50-dollar beans and suggest selling the cheap beans.

They publish research reports claiming that the 50-dollar beans are the best beans in the world, the management of the company is talented, and consumer demand is huge with a growing gap.

Soon, the price of the beans at 50 dollars per can will rise as people's interest in Wall Street's magic beans increases, and the price gradually peaks.

Meanwhile, the company selling beans for just 1 dollar per can seems rather dull. Few analysts write reports related to this company, as people prefer to invest in the magic beans.

This example may sound absurd, but it clearly indicates that market prices are determined by multiple forces, some of which are entirely unreasonable and nonsensical.

Market prices are influenced by emotions and can rise due to fear, happiness, or even simply irrational behavior and thoughts.

However, the value of an asset is not equivalent to its price. It is very important for investors to clearly understand the distinction between the two.

Price is easy to understand, while value is not. Analyzing value requires some thought and mathematical knowledge. The simplest way to measure value is to look at the PE ratio, which can quickly tell you whether a stock's price is at a premium or a discount.

For many investors, it is difficult to justify buying a stock at more than 20 times earnings. The higher the PE ratio, the higher the expectations of the investors.

Such stocks can see prices drop after just one bad earnings report or due to problematic products. Rapidly growing stocks often have higher PE ratios, so it is necessary to compare such stocks with similar ones or observe the industry index or trading funds.

If a stock outperforms similar stocks in the same industry, it is important to find out why. This reason will determine whether the stock's earnings are temporary or sustainable, or whether there are signs of other potential issues.

Focusing on value rather than price must become an instinctive thinking strategy for investors; it must become a discipline in investing.

2. Always sell out of panic.

Bad news can cause inexperienced investors to panic.

They stop thinking and start reacting, losing personal rationality, leading the entire group to act together, perceiving all Stocks as bad and no one thinks about the advantages of each Stock.

During the adjustment period, everyone rushes to the same exit. A significant decline changes the basic composition of the market, and people sell Stocks based on emotional reactions to market news, which are further intensified by collective behavior.

Fear causes rational people to ignore the financial realities that determine Stock prices. When fear replaces rational analysis as a key factor defining Stocks, it often triggers action, and most people want to Sell.

The correct approach is exactly the opposite; at this time, they should Buy.

There is a market truth: Buy during panic and Sell during confidence. Good traders and investors do just that.

This seemingly strange rule creates profits for the bold while causing losses for those who panic sell; this rule can also help everyone minimize losses.

The natural tendency is to Sell when the stock market drops sharply, but if you buy Stocks for specific reasons, such as dividends, rising sales, or good corporate financial conditions, then when others panic sell, you don't need to panic. Selling would mean Selling at Low Stock Price what you bought at High Stock Price.

Who profits? Wall Street! Who loses? Yourself!

3. Believing in the media-packaged legend of the stock god: Buffett never said that!

The market always teaches ordinary investors to Buy and Hold, and whenever someone doubts the investment strategy of Buy and Hold, Warren Buffett is used as a shield.

This great stock investor makes Buy and Hold feel easy and natural. Of course, if the right stocks are selected, Buy and Hold is certainly the way to go.

However, the truth is that even this 'stock god' has to Sell Stocks, adjust the investment position, and even change his mind.

One of his most frequently quoted sayings is 'My favorite investment period is forever,' which makes the halo over his head shine even brighter and blurs other facts.

Buffett rarely publicly states that selling stocks or making erroneous investment decisions is wrong; he only writes these in business documents, which his company, Berkshire Hathaway Inc., has to submit to the Securities and Exchange Commission.

These reports are often dry and difficult to understand, unlike his letters to shareholders that receive much attention from the financial media.

The harsh truth is that Buy and Hold is not as easy as it seems; many people misunderstand this Concept and have very poor results.

Second, smart investors always consider how not to lose money first.

Successful investors are different from others in the market; their thoughts and actions are counterintuitive, which can perhaps be summarized in a simple phrase: poor investors think about how to make money, while successful investors think about how not to lose money.

This is a principle that every investor should know. Understanding this sentence gives you the possibility of achieving real success in the stock market.

The difference in thoughts between poor investors and successful investors is huge: one thought can lead investors to give back all or part of their original capital and profits to the stock market, while another thought can help investors retain the majority of their profits.

Although good investment principles seem like common sense, those outside the stock market are unaware of them.

This is one of the reasons so many people fail in the market: they lack a simple, appropriate, and disciplined investment decision-making framework.

Most people only think about how to get rich and get rich quickly. They repeatedly try various methods, taking on greater risks to gain profits and recover losses, usually with little effect.

They continue to climb the risk ladder of the stock market, pursuing high returns on higher-risk investments, yet they do not truly understand the risks they face or the reasons for failure.

The problem is not necessarily that people are too greedy or foolish to avoid the risks of the stock market, but rather that more and more savers are entering the stock market, even though they were and still are financially 'illiterate'.

These new investors still think from a civilian perspective rather than an investment market perspective, and this disconnect is fatal.

One cannot simply expect the economy to improve or another bull market to erase people's financial dilemmas; instead, one must focus on those investment market facts and ideas that have been proven correct over time, as doing so can ensure the safety of those excellent investors when other investors face difficulties.

If it's believed that people can learn lessons from losing money, then that's a mistake. Those who lose the most, at least in the stock market, are usually the most anxious to recover their losses.

The reasoning is very interesting and is key to understanding why investors get caught in boom and bust cycles.

Mark Taborksy, former Chief Strategist of The Pacific Investment Management Company (PIMCO) and now at Blackrock, said:

"If someone has invested a lot of money in the market and then incurs losses, their reaction is to jump back into the market immediately, because the risk of not making money is greater than the risk of losing the remaining money."

III. The correct investment thinking logic: Contrarian thinking.

So, what is the correct investment thinking logic? Various so-called investment rules and manuals circulate in the market, but let us start from the fundamentals.

First, as a cornerstone, and as the anchor of market sentiment, being a contrarian thinker is a good starting point. The more you understand the market, learn how to cope with pressure, and analyze opportunities, the more you will eventually form your own investment style.

Contrarian thinking is like the sonar of a submarine, helping you overcome fear and reminding you not to be greedy.

In 2005, John Paulson was still a relatively unknown fund manager, when he began to question whether the rise in USA home prices was too fast, people thought he was foolish.

When he made 4 billion dollars in a year, people thought he was extremely smart. From being unknown to becoming the envy of all as a Wall Street short-selling god, his story perfectly illustrates the important principle of contrarian thinking.

Paulson made perhaps the only and the largest contrarian investment in the history of the free market. He did not believe in the mainstream view on Wall Street that "USA home prices have never experienced a nationwide decline" and decided to verify it himself.

While reviewing the housing price data, he discovered that the data usually used by Wall Street to support this view generally only dated back to World War II.

It is necessary to trace back to the Great Depression (note: from 1929 to 1933) to find the period of declining home prices across the USA. They did not consider this factor in their analysis.

He inquired with the Banks, and the Banks replied that even if home prices fell to zero, it would at most be a short-term distortion, and home prices would soon resume an upward trend.

Therefore, Paulson re-examined the methods Wall Street used to analyze the Real Estate market, and he found that the data were based on nominal prices, which can mislead people as it includes inflation.

The nominal growth rate was very high in the 1970s due to inflation rates reaching double digits at that time, but Paulson believed the actual growth rate was quite low.

When he converted nominal prices into real prices over a span of 25 years, he found that home prices did not rise as quickly during his recorded time as they did from 2000 to 2005.

He said: “Our opinion is that home prices are overvalued and will adjust; the quality of mortgage collateral is very poor, and there is a high likelihood of huge losses occurring.”

He began to assemble his own complex investment portfolio, looking for products that could increase in value once the Real Estate market collapsed.

Paulson said: “That was the situation at the time; even our friends thought we were wrong and felt sorry for us.”

An investigator from the American Financial Crisis Committee asked him, "Why does everyone think you are wrong?" Paulson replied:

"Other than the defaults on mobile homes that occurred in California in the early 1990s, investment-grade mortgage bonds have never defaulted.

Except for that small amount of data, there has never been a default on investment-grade mortgage bonds, and national home prices have never experienced a downturn, so they couldn't possibly think of that.

At the same time, the loss rate on mortgage bonds was extremely low, so they couldn't find any issues across the industry.

How could Paulson think to question the mainstream view of the real estate market at the outset? To a large extent, this came from a sense of history.

He was born in 1954, lived a long time, and experienced the ups and downs of financial history.

Paulson said, "Having gone through the cycles and periods of calm, I accepted the view that the credit market and the housing market are both cyclical, and both will peak in quality and pricing before declining."

Of course, not everyone has the ability to bet that the market will decline; many find it easier to bet that stock prices will rise. Betting during a crisis often intimidates most people, but the wise always have a unique and determined perspective.

In late September 2008, during the subprime crisis when no one was willing to associate with Banks, Buffett invested 5 billion USD in Goldman Sachs.

At that time, the world's fourth-largest investment bank Lehman Brothers had just declared bankruptcy, the USA government took over Freddie Mac and Fannie Mae, and rescued American International Group.

Berkshire Hathaway Inc., led by Buffett, purchased permanent preferred shares twice for 5 billion USD, with a dividend of 10%.

Buffett also received a guarantee that he could convert the contract into Stocks, meaning he could buy 5 billion USD of Goldman Sachs common Stocks at a price of 115 USD per share.

The Wall Street Journal stated that this investment "indicated that confidence in the financial system had strengthened earlier this month since the subprime crisis." When Goldman Sachs repaid the loan in 2011, Buffett's profit reached 1.7 billion USD, equivalent to an income of 0.19 million USD per day.

It is evident the importance of reverse thinking, and buying in fear indeed proved to be highly profitable!

Editor/Jeffy