Investing is about making good, logical decisions. The reason so many individual investors fail to beat the market is that, in the face of decision fatigue, they start to make choices dictated by emotion instead of logic. But don't worry! In this week's episode of Industry Focus: Financials, Gaby Lapera and John Maxfield go over four simple pointers for using writing to stave off decision fatigue and keep your investments clear and logical.
Then, they take a quick look at what's coming up for banks this earnings season and why banks have struggled this first quarter.
A full transcript follows the video.
This podcast was recorded on April 11, 2016.
Gaby Lapera: How to take emotions out of investing, or why you should learn how to write.
Hello, everyone. Welcome to Industry Focus: Financials edition! Today is April 11, 2016. My name is Gaby Lapera and John Maxfield is joining us on the phone. So we have kind of a crazy episode for you today. Today, we are going to talk about writing. If this sounds like not our wheelhouse, I thought it sounded crazy but Maxfield convinced me. The more I thought about it, the more I agreed. Let's talk about how you can use writing to make you a better investor.
I think that most people are familiar with the concept of decision fatigue, right? Just as a summary, just in case you aren't. Decision fatigue is the idea that the more decisions you make, you are more likely to make poor decisions going forward. So say you are at the supermarket and you are there for a whole hour, which is a long time to be at the supermarket. So maybe at the beginning you go in and you are, like, I'm going to eat real healthy this week. I'm going to get all my fruits and veggies. But after you are there for an hour all you want to do is get a package of Double Stuf Oreos and just stick them all in your face all at once. All right, because you have already made so many decisions about what brand of orange juice to get and how many peppers you need and I don't know what, all the decisions you make at the grocery store. But this applies to real life. This happens to you all the time. This is why you should not make decisions, like important decisions, at the end of the day if you can avoid it. You kind of want to go into this fresh.
Now the reason I'm talking about this is investing is about making decisions, a lot of decisions, and in order to make good decisions, you want to know that you are thinking as clearly and as critically and as logically as possible. So Maxfield pitched me this idea that writing is a great way to do that.
John Maxfield: Yeah, I mean, and you think about again. First of all, I love your supermarket analogy. It makes me think about when I go to the supermarket and then I'll get like candy. I literally just did this the other day at Trader Joe's. Then you make them put it on the top of the bag so that you can eat it in the car, like what... What animals are we? You know what I mean? What is that all about? But yeah, I love that. When you think about writing and you think about investing there is a huge overlap, and here's where I kind of came up with that whole thought process. You know, one of the benefits of working as a writer for The Motley Fool is that we are able to read a substantial amount. I've read on average probably a book a week every week since I started writing for the Fool five years ago. One of the things that I have come away with from that whole process is that there is a large overlap between the best investors and really good writers.
Let me give you some examples. Warren Buffett, his annual letter to shareholders is not only interesting because this is the richest guy in America writing it but it is really well written and really well laid out. Benjamin Graham, obviously his mentor, who kind of started that whole value investing process, he was an excellent writer. Howard Marks at Oaktree Capital Management, brilliant, brilliant investor equally brilliant writer. George Soros, Henry Clews who was the Warren Buffett of the Gilded Age, he wrote a... I mean these guys. David Einhorn, Peter Lynch and I know you don't like, you're not as big of a fan of Peter Lynch, but all of these guys are excellent, excellent writers and excellent investors. Then so you say, is there some type of correlation here, or is it completely coincidental. To your point, Gaby, I can't help but think that there is a relationship here, and here's why.
One of the things that we know about investing, is that as general rule, individual investors underperform in the market to a meaningful degree and the other thing that we know is why they underperform. That is because they allow emotions to dictate their investment decisions in the place of logic. What writing does, is when you are forced to put down your ideas in print, you have to be more disciplined about them. So when you think that through, that allows you to take out, to a certain extent, emotions from your investing decisions. That is why, as a general rule, while writing, it's also very beneficial in a lot of other areas in your life, but it's particularly beneficial in investing.
Lapera: Definitely, and I don't know if this makes particular sense to me because I'm a highly verbal person, so I think in words and having things in words helps me check the internal logic of my thought and justify my conclusions in a place that's outside of my brain. Because when it's all inside your head sometimes you can kind of gloss over the parts that don't make 100% the greatest of sense, but when it's all written out you can actually check everything. Because it's all written out, you don't have to remember everything in your head, you can just look at it and see if it all fits together. But to do this you have to write in a particular way. We're not talking about creative writing, because that's a whole different kettle of fish. It's a little bit, it's a lot more like science writing, which is something I am a huge fan of and something I have taught before.
The No. 1 thing that you need in any single piece that you write is a strong thesis statement. Not just a strong thesis statement, the thesis statement needs to be at the beginning of whatever it is your writing so that everything you write relates back to it. Every time you start a new paragraph, your topic sentence should be something that helps support your thesis.
Maxfield: To your point, Gaby, this is a rule that... Just to kind of put this all in perspective, this is a rule that not only, and we are going to go through a handful of rules here. They not only apply to investing but just to writing in general. Even if you're not writing about investing, if you are writing an email, right? If you are writing a memo to your boss, whatever it is, these really simple rules will help you become better writers. They're really kind of the distilled wisdom of myself, Gaby and other people who have written and edited on a professional level now for some time. To your point, Gaby, there's a tendency for writers to think that what you should... The objective is to get the reader to read to the very end of their piece. So one of the things that they do is they hide the ball. I don't know where this came from, maybe I'm just making this up in my head, but this has been kind of my experience and my progression in writing. What you really want to do, you don't want to reserve information until the end, you want to put it right out immediately.
That very first sentence or two, which newspaper writers refer to as the lead, is a really critical thing to do. To put out your thesis right then, then throughout the rest of your piece, both yourself and the reader can test the logic of your thesis. Let me give you an example. Let's say I want to talk about Bank of America (BAC 1.59%). I want to say Bank of America is a buy right now. Well, you shouldn't lay out the evidence first and at the very end say Bank of America is a buy right now. You just come right out at the very beginning and say, "Look, Bank of America is a buy right now." Then you lay out your logic; it's trading 40% below book value, its return on assets is 25% below -- 1% is kind of the industry metric that you want, that it should eventually get up to -- and they know blah blah blah blah. You hit all those logically things and then the reader along the way can test your analysis.
Lapera: Absolutely, this is actually huge pet peeve of mine, that people do not include thesis statements. When I was a graduate student, I would often grade undergraduate papers and people would turn in entire essays without a thesis. And I was working in a science. I don't know why, if you were an undergraduate out there and you were writing a paper right now and it's not for a creative writing class, go back and check to make sure you have a thesis. Sometimes it's hard to write a thesis at the very beginning, maybe you don't know exactly what you're going to write about. In that case write your entire essay, go all the way down the bottom, take your conclusion paragraph, make it your intro paragraph and write yourself a new conclusion. By the end of the paper, I hope you gosh darn well know what you are writing about. I'm so sorry, I feel very passionate about thesis, like... I feel very strongly, I don't know if you can tell.
Maxfield: But, Gaby, that point that you made about the conclusion is a really good point. A well designed piece is kind of like a circle. You will begin and end at the exact same points, which are your thesis. When we talk about thesis, what we are talking about is the point that you're trying to convey in that particular piece.
Lapera: Yes, so I think that we've beaten this bit of advice to death, but just in case, write theses, people. Please, please, I beg of you. All your graduate TA's will thank you, they will weep with happiness when they see that there is a thesis. People will automatically deduct 20% from a paper if there is no thesis, I'm telling you that right now. This is to help you all, college students. I've read a lot pretty terrible papers.
The second thing that you really want to do is once you know what you are going to write about, once you have your thesis, is you want to make sure when you start writing that you are writing with your reader in mind.
Maxfield: Right, you want to... that is exactly right. A lot of the tendency, again this is a tendency that I found among writers, is that they try to write to make themselves sound smart. Well, that's great, I mean, we all want to sound smart, right? The problem is when you write to sound smart, you sound like someone who is trying to sound smart as opposed to somebody who is actually smart.
The really good writers, the really good thinkers, what they do is they write simply. They strip everything down to the absolute bare bones to make sure that what is important is not the writing style so much but that the message is being conveyed in as clear and simple prose as possible. So you want to, you know, what are we talking writing simply? You want to use simple words, we all want to again, show everybody we have a great vocabulary and all those things but if you are using really fancy words that are long and complicated you are going to cause disruption to the reader and you're going to unnecessarily obfuscate the whole point of the piece. It's going to be more complicated that it actually has to be.
Lapera: I like that you just said obfuscate when you asked us to use smaller words.
Maxfield: Sorry, now there are exceptions to this, because there are some times when a complicated word fits the purpose exactly, it conveys exactly what you're trying to convey. So there are exceptions to every rule, right? The second thing beyond using simple words is that you want to use simple sentence construction. Start with your subject, go to your verb, end with your object. Now there are variations to this but that is active writing as opposed to passive writing. There's a reason that sentence construction is the way it is and under the traditional rules, it's because it's designed to communicate really clearly. So when you go out and make long complicated sentences with a bunch of clauses, or if you use passive voice as opposed to active voice, you're just going to muddy the waters in terms of what you are trying to convey.
Lapera: Yes, you definitely are. I kind of, this is kind of analogous to having a professor, an astrophysicist who is teaching Physics 101 and his head is all up with black holes and universes far away and he is trying to communicate this to freshmen who are maybe taking his class for a credit because they have to. He's not speaking at their level, they are not going to get what's going on. So you really need to keep both your readers and your listeners in mind.
Maxfield: If you think about, to go back to some of those investors who are also fabulous writers, if you read Warren Buffett's letter, literally anybody can read his letter. You don't have to be a guy on his level of investing to be able to read and understand what he is saying. The same thing is true of Howard Marks at Oaktree Capital Management. There's guys are literally, they are brilliant. They are geniuses when it comes to investing, but the way that they write, it is accessible to anybody. So what you see from their writing is how clear and logical and analytical their thought processes are, and that is what you want to convey both to yourself in writing and to anybody that may read what you're writing.
Lapera: Yes, and a quick side note, just in case you don't know what clauses or objects or any of this stuff is. I'm going to put in a plug for Strunk and White's Elements of Style. It's a classic, it's the handbook of good writing. Anyway, getting back to what John was saying about these people having very clear logical thought. This is something you need to do in your writing and this gets back to having a good thesis. You need to have pieces of evidence that support your thesis, and that make sense, and that all of them make sense with each other.
Maxfield: If you think about a piece... You start with your thesis, and then you are going to have a bunch of paragraphs underneath that. What each of those paragraphs, which you can kind of think of as links in a chain. They all have got to be linked together and the think that links them is logic. So you want each paragraph to build off the one before it, which in turn builds off your thesis and then goes to your conclusion. Again, it's kind of the beginning and the end kind of start and finish at the same place. If you're not paying attention to logic, again, it really almost renders the whole point of the piece or an email or whatever it is, kind of, for back of a better term, pointless. It's not strong together logically and the whole point in investing is to make good, strong, non-emotional decisions. You do that by resorting to logic.
Lapera: This is actually a flaw that I've seen in a lot of people's writing, is that they present you a thesis and then they just state things but they don't link it back to the thesis, one, and two, although they are stating things often times it's not evidence for the thesis. You really want to create, it's just like making a building where or I don't know, fixing something. I have no idea. You create your foundation layer and then you build up on it. Each brick is a piece of evidence. Without evidence, then you can't come to a conclusion, right? You have no way of testing whether or not your thesis is correct. So this brings us also kind of to my last point, despite the tendency of both me and Maxfield to ramble onwards, less is more. One of the things I have noticed is that in great writers, great speakers, they are able to convey complicated ideas in the most concise fashion possible.
Maxfield: If you talk to... If any lawyers are listening, they will understand this perfectly well. If you talk to lawyers, who their whole job, in particular if you are a litigator, is to communicate things to a judge and to persuade a judge in your favor, as opposed to the opponents favor. One of the foundational aspects of legal writing is that you should write fewer words, use less space, write shorter motions, shorter briefs than longer briefs. In college you write a thesis and how does it work? You have a 40-page minimum, so what do you do? You go out and you throw everything and the kitchen sink at them, whether is logically tied to the thesis or not.
In law school, the way they teach is that they give you a page maximum. So they will say you have two pages maximum to write this memo, you have two pages maximum to write this brief. What that does is it not only does it reinforce the requirement that you really very simply state your thesis and then tie everything together though logic and only include the absolutely necessary pieces. It also makes it much easier to digest your message, because only the things that are necessary is there. So when you are thinking about writing, really great writers, they go for and this is something I think that non-professional writers don't appreciate as much, because there is this thought that "Oh, the longer the pieces the better they are". That is not necessarily the case by any stretch of the imagination. As a general rule, great writers try to do as much in as little space as possible.
Lapera: This gets to two points that I have seen a lot with undergraduate writers that are related to each other: one, when people don't really know what they are talking about, they end up going for length. They kind of do this, "I'm-going-to-throw-spaghetti-at-the-wall-and-see-what-sticks, and she'll hopefully just pick out the correct points," as opposed to thinking and saying to myself "these are the most important points." It's a sign that people don't really 100% know what they are talking about, when things just go on and on and on. The second point is that people who are more expert are more able to say things in a shorter fashion. This is kind of like the two sides of the same coin, right? If you want to really show that you know what you are talking about you can do it in fewer words.
Of course this isn't always true, I've done a lot of science editing, and sometimes people's brains just don't think that way and that's fine. That's why editors exist. We are here to help pare down your writing, but you really need to have those essential nuggets, and they have to be good. You can't just throw everything and see what works and have someone else decide for you. That means you haven't really thought through what you are trying to write about.
Maxfield: Just to recap these four things, I think that you would agree with me, Gaby, if you can just nail these four pieces you are going to be 90 -- dramatically ahead of your average writer. That's going to help you writing emails to your boss, writing memos, whatever it is, doesn't matter what it is. These four things apply across the board, also to investing. Write simply. Use simply words, simple construction, simple sentence construction.
Second, start with your thesis. Come out, they call it a lead for a reason. Come out strong, tell people exactly what you are going to say, then go through and say it. Pay attention to logic. Make sure that it flows logically, like a chain that you have those interlocks of logic that are putting everything together. Finally, less is more. If you can say something in 600 words as opposed to 1,000 words, chances are your message with 600 words is going to be more effective than your message with 1,000 words.
Lapera: Yes. Just to reiterate, just to give you kind of the investing takeaway, right? Which is investing is a lot of decisions, you want to make sure your decisions are good decisions. One of the ways you could do that is by writing, because writing forces you to think logically. If you are doing it correctly. Also, I just kind of want to throw out there that a lot of people, I think most people now, type everything up. They don't really write stuff by hand, but writing by hand is actually super helpful.
There are studies out there showing writing by hand helps light up those centers of your brain that are associated with learning, in a way that typing doesn't. When you write your notes, if you write them by hand you are way more likely to remember what it is your writing about. It also shows that it makes people more meticulous and careful writers. And potentially it also helps people be more creative in their writing. It tends to stimulate a part of your brain that typing does not. So when you are brainstorming, I always brainstorm by hand. I find it easier and I also find that I come up with more creative ways to address a topic when I start out by hand and then go to the computer to actually type up the paper. That is just kind of anecdotal for me but everything else has studies behind it, and if you really want to know what they are you are more than welcome to email me.
Real quick, I think we have just enough time to do a kind of what's coming up in bank earnings because most of the big banks are releasing their earnings this week. I know that this next quarter is going to be pretty rough on banks, especially our big universal combo retail/investment banks. Do you want to give your four reasons why, John?
Maxfield: Just as a general rule, it's going to be, like you said Gaby, it's going to be a tough quarter for the big banks. Four reasons for that, and the universal banks in particular, these guys are... These are bank that have both investment banking operations, which includes trading operations, and also on the retail side, is you're taking deposits and making loans. There's really four reasons that banks are going to struggle during the first quarter, the first is that interest rates are still ridiculously low. The Federal Reserve came out in December, raised interest rates, raised short term interest rates by 0.25%, but there is still basically for all intents and purposes near zero, that it's banks top line and their bottom line, Because one of the main ways banks make money is they lend it out and the more they [...] short-term interest rates.
That's one reason, the second reason is that oil prices are still ridiculously low, and what we are starting to see now that they have been low now for an extended period of time, is that those companies, those oil companies are starting to struggle to service their debts. So what banks are doing is they are increasing their loan loss provisions as a result of that and loan loss provisions act effectively as the same as expenses so that will contract their bottom line.
The third thing is that trading revenues are going to be down, there is too much volatility going on in the first quarter, there is too much uncertainty in the global markets, although there is always uncertainty in the global markets, but that's kind of what they always tag as an explanation as a drop in trading revenues. Citi (C +1.17%) came out and said trading revenues were going to be down 15%, JPMorgan (JPM 2.70%) came out and said trading revenues are going to be down 20%. That's going to hit these big universal banks and top and bottom lines.
Finally, investment banking revenue, it looks like although there is conflicting, there's been conflicting messages on this, Citi coming out and saying they are going to be much lower, J. P. Morgan coming out and saying that they are holding up decently. It's safe to assume, just to prepare for the worst if you will, that investment banking revenues will be down too.
All four of these things are just going to hit the big banks. The important thing for investors to keep in mind is that this is no time to flee -- this is no time to be worried. These big banks, they aren't going anywhere, they are going to stick around. They are going to be around 50 years from now; they are going to be around 100 years, probably 100 years from now, right? So just stick though these hard times, pick these shares up for large discounts to book value, in particular I love Bank of America trading at a 40% discount to book value. That more than offsets in my opinion, kind of their revenue and earnings issues right now.
Lapera: Yeah, that pretty much sums it up. I just want to... I hope that you guys really enjoyed this episode. We had that writing segment and then we had a very, very, very brief bank earning segment. If you guys have any questions, comments, or concerns or if you would like me to look over your paper before you submit it to your professor, you can email us at [email protected] or tweet us @mfindustryfocus. I guess if you have any general questions about writing, I'm more than happy to answer them. Not creative writing, because I'm not real good at that, but any kind of analytical science writing, I got your back, homie.
As usual, people on the program, may have interest in the stocks mentioned, and The Motley Fool may have formal recommendations for or against the stocks, please don't buy or sell based solely on what you hear. Thank you, guys, very much for joining us and I hope everyone has a great week!
