Investors are always looking for an edge. They spend hours poring over spreadsheets, models, and research reports in hopes of getting an advantage over their peers. However, beating the market is often more about controlling your own impulses than it is about intellect or having better information. No less than Berkshire Hathaway (NYSE:BRK-A) (NYSE:BRK-B) CEO Warren Buffett has said as much -- Buffett is loved for his homespun wisdom as much as he is for his ability as an investor and the wealth he's brought his shareholders.
Buffett has said, "Investing is simple, but not easy," as well as, "Once you have ordinary intelligence, what you need is the temperament to control the urges that get other people into trouble in investing." The Oracle of Omaha's credentials as an investor, analyst, and manager are impeccable, and his theories on competitive advantage and other key investing concepts are worth studying, but it may be a few key character traits, as he alluded to above, that make him the greatest investor of his time.
The good news for ordinary investors is that these personality characteristics are all easy enough to emulate. Let's take a closer look.
There may be no more important quality for investors to have than optimism. In order to swap your hard-earned cash for stock or a similar asset, you need to have faith that it will generate returns, and it's not enough to know that the S&P 500 has historically returned an annual average of 9% if you fear that a crash is around the corner. You have to be an optimist, or at least optimistic enough to believe that the market will go up.
Similarly, you have be optimistic about your own life, believing that you won't need that money in the near future for a medical or financial emergency, or another unforeseen circumstance.
Talk of doom and gloom can be popular among financial pundits, but Buffett is a timeless optimist. The Berkshire chief regularly preaches optimism about the country's future, and he often says that the crop of babies being born in the U.S. today is the luckiest in history. Buffett's strength comes from realistic optimism, meaning "you believe that you will succeed rather than believing you will succeed easily," according to social psychologist Heidi Grant Halvorson. Hope alone is not enough; you have to work to achieve what you're hoping for.
If a lack of optimism can keep people from getting started investing, it's temperament that determines whether they stay in the market or not. Successful investors need to be able to sit through market sell-offs and other gyrations that can rattle jittery shareholders. As Buffett said above, temperament is often more important than intelligence as it prevents investors from making rash decisions, such as putting lots of money into a risky stock or selling during a crash. Temperament is a corollary to another one of Buffett's favorite aphorisms, "Be greedy when others are fearful, and fearful when they are greedy."
In order to be a good investor, you have to have the nerve to buck the conventional wisdom at times and make rational, nonemotional decisions. For example, Buffett resisted the mania of the tech bubble and used the financial crisis to buy stocks on the cheap.
Finally, patience almost always favors the long-term investor, and Buffett is an exemplar here as well. Buffett has said, "Our favorite holding period is forever," and "If you don't feel comfortable owning a stock for 10 years, you shouldn't own it for 10 minutes."
That's not to say that he never changes his mind on stocks. The Oracle dumped shares of IBM after seven years of underperformance as he realized the company faced tougher competition than he originally thought, but Buffett's goal as an investor is to find great companies and then let time and compound interest do the work. Patient investing -- buying stocks you can forget about -- is perhaps the easiest way to invest; it also has additional benefits, including lower tax rates and fewer trading commissions.
In his most recent letter to shareholders, Buffett stressed patience as Berkshire Hathaway waits for better prices to emerge for some of the deals he seeks.
There may not be a book called Zen and the Art of Investing, but investors would be mindful to remember the importance of psychology in buying and picking stocks. Borrowing from Buffett's behavior is a good way to start.