Howard Marks is Dangerously Wrong – Mental Models Memo, October 2018

Here’s a spooky memo for Halloween: famous investor Howard Marks, of whom I’ve long been a big fan, is wrong.  Not just wrong, in fact: he’s dangerously wrong, and I believe his new book, Mastering the Market Cycle is likely to damage – rather than improve – readers’ decisions.

Before anyone jumps down my throat for having the impudence to criticize Howard Marks: I frequently cite The Most Important Thing (Illuminated) as the single most important book on shaping my investing philosophy, and I’ve long recommended it as a first read for aspiring value investors.  I don’t cover investing books on Poor Ash’s Almanack, but if I’d reviewed The Most Important Thing, it would get seven stars – my highest rating.

Nonetheless, even the best can get it wrong sometimes – – the behavioral literature strongly suggests Munger is wrong on 25/6, for example – and much as I respect Marks, I have to be blunt.  His new book will, to use a Mungerism, cabbage up your brain.

In his own words, here’s how Marks explains his misguided premise:

An investor has to learn to recognize cycles, assess them, look for the instructions they imply, and do what they tell him to do.

If an investor listens in this sense, he will be able to convert cycles from a wild, uncontrollable force that wreaks havoc, into a phenomenon that can be understood and taken advantage of: a vein that can be mined for significant outperformance.

It’s a seductive message, especially since Marks’s writing is as cogent, clear, and compelling as it usually is… but, as with most siren songs, succumbing to the temptation will most likely lead to us drowning.  Like Odysseus’s crew, we should put on our earplugs to avoid the danger.

The balance of this memo will explain why – using, of course, mental models drawn from the Poor Ash’s Almanack latticework.

Without Numeracy, We’re One-Legged Men In An Ass-Kicking Contest

Towards the end of this memo, I discuss some caveats – i.e. situations where Marks is right – which primarily include highly cyclical industries (like agriculture) and extremes in broader market sentiment at highs or lows (tech circa 1999, single-family homes circa 2006, stocks circa 2008-2009, Bitcoins circa 2018.)  

But most industries aren’t that cyclical, and most market environments aren’t so easily identifiable as bubbles or crashes.  So let’s talk about the basic mathematics of these middle situations in more depth..

Marks draws a number of graphs in Mastering the Market Cycle to demonstrate what cycles look like.  I’ve long had a similar approach; in fact, I’ve used similar graphs in previous posts and papers.  Here, from Wolfram Alpha, is my visualization of the equation x + 3*sin(x) – directionally, it sort of approximates how cycles look:

They’re dumb fake numbers, as Matt Levine might say, but they help illustrate a point.  Cycles are terrifying up close! Our results (whether sales, retirement portfolio balance, what have you) were all the way up at 5 just recently… and now they’re down to 2.  Eek.

The problem, however, is that we’re just standing too close to see what’s really important.  Richard Thaler has observed – in Nudge (Ndge review + notes), I believe – that the more frequently you check your investment portfolio, the worse you do, because (more or less) short-term volatility makes you forget about the long-term benefits of investing.  

When one zooms out, cycles become more or less irrelevant.  See? Here’s that same equation, from a distance.  

What Marks gets wrong throughout the book is, ultimately, this very basic math.  While my equation is fake and cycles are not that clean, predictable, and repetitive, the point remains valid: given any long-enough time horizon, the slope of the line (the secular trend) vastly outstrips the cyclical fluctuations.  

This secular-dominates-cyclical is true for many interesting phenomena, even outside of investing.  Examples:

Technology: while macroeconomic conditions might accelerate or slow down the pace of technology adoption, we’re not going back to flip-phones or MS-DOS anytime soon – everything of interest in technology is secular.  There will not be a cyclical revival in buggy whips. There is no cycle that takes us back to a world without search engines. (This is, incidentally, one of the reasons that the Shiller P/E is complete and utter nonsense… but I’ve ranted about that elsewhere.)

Globalization and American manufacturing: the financial crisis may have hammered in the final nail, but the coffin of the Janesville GM plant was built long ago.

There is, to my knowledge, no discovered fountain of youth to make aging a “cyclical” rather than secular process.

We’ll return to this in the investing context with some more specific examples (and math) momentarily.  Broadly, though, in modern American history, no downcycle other than the Great Depression and its aftermath has ever had impacts that amounted to extended catastrophe.  

Marks attempts to hand-wave this reality away with a weak and unconvincing argument:

I fear that people may look back at the decline of 2008 and the recovery that followed and conclude that declines can always be depended on to be recouped promptly and easily, and thus there’s nothing to worry about from down-cycles.

But I think those are the wrong lessons from the Crisis, since the outcome that actually occurred was so much better than some of the [other outcomes…] that could have occurred instead. And if those incorrect lessons are the ones that are learned, as I believe they may have been, then they’re likely to bring on behavior that increases the amplitude of another dramatic boom/bust cycle someday, maybe one with more serious and long-lasting ramifications for investors and for all of society.

This isn’t a particularly helpful viewpoint.  The 2008-2009 financial crisis is generally regarded as the worst in American history short of the Great Depression, and (as we’ll see in a moment), it had few lasting impacts for competent investors.  If you think the world is going to end, I think we have bigger problems than our investment portfolios.

Marks’s take here reminds me of a line to the opposite effect from Henry Petroski’s To Engineer is Human(TEIH review + notes):

“all bridges and buildings could be built ten times as strong as they presently are, but at a tremendous increase in cost […]

since so few bridges and buildings collapse now, surely ten times stronger would be structural overkill.”

Opportunity costs, in other words.  Spending our lives assuming the Great Depression (or worse) is around the corner is sort of like being so much of a germophobe that you never leave the house.  

It’s smart to, say, wash your hands before eating, and to wear sandals if you’re taking a shower at the gym – but washing your hands every five minutes, or doing your best Bubble Boy impression, is overkill to the point of being detrimental to quality of life.  Dose-dependency, again: some caution is good, too much defeats the purpose by resulting in net negative utility.

This, in fact, is a lesson that dates back to Benjamin Franklin.  Being a permabear (which is what anyone who attempts to “time the cycle” typically turns into) doesn’t pay. Here’s an amusing anecdote from Franklin’s autobiography (ABF review + notes):

“there are croakers in every country, always boding its ruin.  Such a one then lived in Philadelphia; a person of note, an elderly man, with a wise look.  This gentleman, a stranger to me, stopped one day at my door, and asked me if I was the young man who had lately opened a new printing house.  

Being answered in the affirmative, he said he was sorry for me, because it was an expensive undertaking, and the expense would be lost; for Philadelphia was a sinking place, the people already half bankrupt, or near being so; all appearances to the contrary, such as new buildings and the rise of rents, being to his certain knowledge fallacious; for they were, in fact, among the things that would soon ruin us.  

He gave me such a detail of misfortunes that he left me half melancholy. Had I known him before he engaged in this business, probably I never should have done it. This man continued to live in this decaying place, and to declaim in all the same strain, refusing for many years to buy a house there, because it was all going to destruction; and at last I had the pleasure of seeing him give five times as much for one as he might have bought it for when he first began his croaking.”

Let’s put some numbers (and real-world investment cases) around this.  Firstly, most investors and business managers regard double-digit returns as a floor for acceptable performance, whether they’re investing in lower-risk assets with an appropriate degree of leverage (like banks or credit funds), or higher-risk assets on an unlevered basis (equity managers like myself), or if they’re simply business operators that generate free cash flow and look to reinvest it accretively (say, well-run industrials companies like Honeywell or Danaher.)  

I use 10% as my standard equity cost of capital and target returns substantially higher (20% annualized); most banks and corporations also view 10% ROEs as a minimum acceptable level, and have substantially higher targets for actual results.

The problem, then, with attempting to time the market, is that you’d better be damn good at it – otherwise you’re leaving a lot of money on the table.  If you can consistently source and execute on investment opportunities with, say, a 12% return on equity, and reinvest proceeds at the same rate, you’ll have earned a tidy 40% in three years.

Using inversion, let’s look at this a little differently – in this scenario, you would need to sustain a 30% drawdown at some point during those three years for you to merely break even by sitting in cash and waiting to deploy until a drawdown.  (Roughly, 0.7 x 1.12^3 = ~1.)

30% drawdowns are fairly significant, and they certainly don’t happen every three years on average.  Conversely, if the manager (or business) has opportunities at higher hurdles, you need an even bigger drawdown – or for it to happen even more frequently – to justify market timing.  And all of this, of course, assumes you can time the market (a flawed assumption we’ll address in the next section.)

One basic problem here is heterogeneity.  What Marks fails to recognize and address is that the world has a massive positive carry – and, regardless of where the cycle might be, successful investing by business managers and investment managers is about identifying and deploying capital towards the highest-carry opportunities, which can often exist in interesting niches regardless of broader market conditions.  

Perhaps at Oaktree’s $100B+ AUM scale, securities are essentially homogeneous and they can’t really afford to pick and choose – but for the rest of us operating on a more pedestrian scale, this constraint doesn’t apply, and as such our focus should be on identifying the high-return investment opportunities, regardless of where we may be in the cycle.

My friend and fellow investment manager Travis Wiedower goes into more depth on the topic of holding cash or not in a blog post from earlier this year, and his post (among other discussions with thoughtful investors) actually led me to lower my targeted cash position for the Askeladden portfolio.

It’s worth noting that this logic applies no matter the investment style at hand.  I think that the division of investment styles into “growth” and “value” is overly simplistic and usually not helpful, but we’ll use it here for illustration (for the benefit of those readers who are not sophisticated value investors.)  

Two ways that an investor can earn superior returns over time are by purchasing assets that might have low to modest growth, but trade at very low multiples to their ongoing cash flow – classically referred to as “value” – or by purchasing assets that offer less of a current cash flow yield, but high future growth potential – classically referred to as “growth.”  

(It is worth noting that “value investors” such as myself don’t use such distinctions, and while some focus more on one end or the other of the spectrum, are generally attempting to buy companies that trade at or below their estimate of intrinsic value, of which the growth rate and cash flow yield are inputs.)

It’s easy to see how, from a value perspective, it makes sense (regardless of “where we are in the cycle”) to purchase high current cash flow yields with reasonable future growth prospects.  It’s somewhat less intuitive – but still quite stunning – how little of a blip the 2008-2009 global financial crisis (again, the worst since the Great Depression) had on the long-term revenue growth trajectory of companies like Costco, Ansys, Gartner, Cognex, and Tyler Technologies (a bucket of growth stocks with strong business cases).  Here is a chart from the beginning of 2017:

And here’s a chart of their stock prices since January 1, 2007:

This is not a celebration of growth investing, to be clear; all of these stocks have historically traded at valuations well higher than what I’d personally be comfortable paying.  Nor is this to suggest that all growth stocks performed like this (see sample size), nor is this to suggest that things couldn’t have turned out differently for these companies.  (See my comments in the Q3 2018 letter, as well as the process vs. outcome model.)

Still, it is clear that if you’d been able to identify a portfolio of 10 – 15 high-quality growth stories like the above, and purchased them all on January 1, 2007, notwithstanding the global financial crisis and even notwithstanding a huge correction that might happen tomorrow, you’d probably be pretty happy sitting here today.

A similar bucket of “value” stocks is harder to identify and track over time, as the opportunity set turns over somewhat more rapidly (i.e. what is cheap today might not be cheap tomorrow.)  But the same idea generally applies, and I believe similar results would have been achieved: regardless of the financial crisis, long-term investment CAGR since 1/1/2007 would have been more than acceptable for a competent and thoughtful investor, regardless of interim mark-to-market volatility.

And that brings us to the second set of problems with Marks’s advice.

There Ain’t No Such Thing As A Free Lunch

Okay,” I hear some of y’all saying.  “Maybe timing the cycle isn’t so important after all.  But why not try to juice our returns a little bit by doing so?”

Well, because.  There’s a lesson my dad taught me young: nothing’s really free.  

Everything comes with a cost, a tradeoff.  We’ve already talked about the tradeoff in a perfect world with perfect information (i.e. the opportunity cost of capital deployed), but Marks fails to account for the fact that you’re not always going to get it right with cycle timing.  Unless you’re investing in highly leveraged companies in heavily cyclical industries (which is a separate margin of safety issue), a downcycle is not going to kill you.

What will kill you, unfortunately, is missing out on an upcycle because you think you see a downcycle coming.  And I’m not talking about multiple expansion or contraction here: I’m talking about the strong positive carry available to investors who can identify reasonable double digit IRRs (to say nothing of teens-twenties IRRs).  There is a ton of execution risk here.  

Marks mentions, then proceeds to ignore, a giant hole in his theory: base rates.  I have not yet personally met a single investor who successfully used a cyclical, market-timing component to improve their returns through a full cycle; while there are many famous success stories of people shorting MBS into the financial crisis and so on, many of these investment managers – Kyle Bass, John Paulson, etc – have since seemed to be the broken clocks that were right once.

Marks sort of acknowledges as much at one point, talking about the general failures of “macro” investing… but that’s essentially exactly what he’s asking readers to do: add a “macro” top-down component to their bottom-up analysis.  He tries, and fails, to make a semantic differentiation where none actually exists.

Unfortunately, far too many otherwise smart people are seduced by something about macro.  I don’t know what it is. Grandeur? Ego? The feeling of knowing some big secret nobody else knows?  I’ve never understood it. But I have only ever seen macro “awareness” lead to bad results for most managers.

The extreme example here is someone like John Hussman, who was once a talented stock picker (by reputation, and per his historical returns), but went down the macro rabbit hole post-2008, and, well, this is what happened to his returns (blue line):

You will not often see a performance chart uglier than this one.  Hussman, sadly for Marks (and us), exemplifies the sort of approach that Marks is advocating.  

Marks states, in Mastering the Market Cycle, that investors should be aware that…

The odds change as our position in the cycles changes. If we don’t change our investment stance as these things change, we’re being passive regarding cycles; in other words, we’re ignoring the chance to tilt the odds in our favor.

But if we apply some insight regarding cycles, we can increase our bets and place them on more aggressive investments when the odds are in our favor, and we can take money off the table and increase our defensiveness when the odds are against us.

It doesn’t take much reading of Hussman’s materials to figure out that attempting to do what Marks recommends is precisely what wrecked his returns.  Hussman, from his 2018 Annual Report:

Specifically, the losses in the Fund in recent years can be largely traced to a single factor: our defensive response to extreme and persistent “overvalued, overbought, overbullish” features of market action.  These syndromes had reliably warned of impending market losses in prior market cycles across nearly a century of history, but were virtually useless in the face of yield-seeking speculation provoked by the Federal Reserve’s unprecedented experiment with zero interest rate policy.

Note that as of mid-2007, the green and blue lines in his chart (i.e. the actual hedged performance and hypothetical unhedged performance) were more or less overlapping – Hussman’s hypothetical $10K client, who would have had ~$20K or thereabouts at that time, would have $48.4K as of this summer if not for the attempts at market timing.  

That would have been a perfectly acceptable result since 2007 – not world-beating, but a high single digit CAGR compounded over ten years is nothing to sneeze at.  Instead, thanks to Hussman’s attempts to time the cycle, they now have $11.2K – and this is the dark side that Marks doesn’t discuss.

Again, Hussman is the extreme example of cycle-timing gone horribly wrong.  With the caveat that I’m not sure how Hussman’s portfolio would perform in such a scenario, assuming that it’s market-neutral and would stay flattish, the S&P 500 would have to fall by something like 70 – 80% for Hussman to merely break even on his disastrous attempt at timing the cycle.  

Clearly that is not going to happen; while opinions on current market valuations vary widely, I doubt anyone but true deep-end conspiracy theorists thinks it should trade at 20% of what it currently does.  There does not appear to be any plausible scenario where Hussman’s post-2008 attempts at cycle timing will ever end up being cumulatively additive to his investors’ returns.

But I’ve seen it in other fund managers’ returns, too, albeit to a far lesser degree.  Never once have I seen this sort of cyclical awareness successfully implemented over a full cycle – that is to say, some people sidestep danger because they’re congenitally cautious, while some people fully exploit boom times because they’re overly optimistic.

Marks draws charts of what this looks like in his book, then suggests you can combine the two to meaningfully outperform.  This is pure fantasy, as best i can tell. In fact, literally nobody I’ve ever met in the investment world has been able to, as Marks suggests, be aggressive at the right times and defensive at the right times as well.  This includes people who I highly respect for their stock-picking abilities… it just seems that stock picking abilities don’t translate to cycle-timing capabilities.

(In a business sense, by the way, I should note that most of the business managers I admire are also relatively agnostic as to the business cycle – they simply operate their businesses as well as they can and take advantage of the opportunities they see in front of them, in a thoughtful and disciplined way.  You underwrite good deals when you have them, with, of course, consideration of industry-specific factors that are relevant… but without consideration of largely unknowable future direction of the broader economy and market.)

Marks claims that he’s able to time cycles successfully and that it’s been a big contributor to Oaktree’s returns.  I am not going to dispute this claim because I’m sure he’s being honest in his assessment. But again, this may be an issue of trait adaptivity and selection bias.  

Howard Marks is obviously special.  Nobody is questioning that. He deserves respect for what he’s been able to do, and he has mine.  But that doesn’t mean the rest of us should try to adopt his investment style if we don’t have the tools to do so.  

It’s similar to the flaw of using elite athletes or Navy SEALs as role models for how we should go about our work and lives – there are plenty of fine heroes in our armed services who tried and failed to get into the SEALs and, undoubtedly, went on to have distinguished careers elsewhere.  

Hell Week selects for people who have the toughness to be SEALs; people who end up being SEALs most likely have many natural traits that are adaptive to success as a SEAL.  You can’t then turn around and apply their practices to normal civilians; most of us would probably quite literally die if we attempted to do what they did.

Howard Marks, similarly, has clearly been thoughtful enough to utilize an investment style which takes advantage of his gifts.  And he gets to write the book about it because, well, he’s Howard Marks. That’s what people who read his book will see – they won’t see the survivorship bias issue of all the managers who have tried and failed to do what Marks has done.

It’s like the story of Sanford Dvorin in Gregory Zuckerman’s The Frackers (frk review + notes) – who’s Sanford Dvorin, you ask?  

Well, as Zuckerman explains in a heartbreaking a/b story arc, Dvorin was almost a rich oil man like Aubrey McClendon or Harold Hamm.  But he wasn’t, because his money ran out just before he would’ve struck it big with extremely valuable acreage.  Today, he’s just another guy like you and me.

Similar stories play out with all the entrepreneurs who max out their (and their mom’s) credit cards starting their business… it’s only the ones who turn into billionaires who get to write books.  The ones who don’t? They only get to write bankruptcy paperwork.

To sum this section up, here is an excerpt from my Q3 2018 letter that I think represents the right way to do things (on the opposite end of the spectrum from the advice Marks provides):

Let’s translate this theory into practical investment ramifications: one of the most important lessons I’ve internalized as a professional investor is that my goal is not to maximize theoretically achievable returns – that is to say, returns that could ideally be achieved in some fantasy land.  Instead, my goal is to maximize practically achievable returns – what I can actually manage in the real world.

Our intentional avoidance of any sort of non-obvious macro view (i.e., something not based on very long-term, very obvious base rates) prevents our trained-intuition bottom-up underwriting of individual stocks from being confused by irrelevant exogenous noise.

Marks recommends what would be the right approach in an idealized world – but in the real world, investors should aim to be relatively macro-agnostic, focusing on underwriting compelling bottom-up opportunities (with, of course, basic sensibilities discussed in the “caveats” section.)

Complexity: The Final Nail in the Market Timing Coffin

I was fairly critical of Hussman in the previous section, so let’s throw him a bone.  The way Charlie Munger tells it, maybe at least some of what Hussman was barking at made some sense.

Such thoughts are way above my pay grade and not something I personally ever think about, but here is how Munger put it a few years back regarding ZIRP and QE:

“This has basically never happened before in my whole life. I can remember 1½ percent rates. It certainly surprised all the economists. It surprised the people who created the life insurance industry in Japan, who basically all went broke because they guaranteed to pay a 3% interest rate. I think everybody’s been surprised by it, including all the people who are in the economics profession who kind of pretend they knew it all along.

But I think practically everybody was flabbergasted. I was flabbergasted when they went low; when they went negative in Europe – I’m really flabbergasted. How many in this room would have predicted negative interest rates in Europe?

Raise your hands. [No hands go up]. That’s exactly the way I feel. How can I be an expert in something I never even thought about that seems so unlikely. It’s new territory….

“I think something so strange and so important is likely to have consequences. I think it’s highly likely that the people who confidently think they know the consequences – none of whom predicted this – now they know what’s going to happen next? Again, the witch doctors.

You ask me what’s going to happen? Hell, I don’t know what’s going to happen. I regard it all as very weird. If interest rates go to zero and all the governments in the world print money like crazy and prices go down – of course I’m confused.

Anybody who is intelligent who is not confused doesn’t understand the situation very well. If you find it puzzling, your brain is working correctly.”

What’s the answer to the confusion?  In a word, complexity.

No, I’m not just substituting one word with another.  “Complexity” is a mental model that I haven’t fully wrapped my head around yet (hence why there’s no writeup on Poor Ash’s Almanack about it.)  

However, it’s touched upon by many of the books covered on this site, including Geoffrey West’s Scale (SCALE review + notes), and more importantly, several books by John Lewis Gaddis, both The Landscape of History (LandH review + notes) and On Grand Strategy (OGS review + notes).  All three, by the way, are excellent books.

The basic idea is that there are many phenomena which are highly subject to feedback effects. Two real-life examples include turbulence and traffic jams: the same number of cars on the same freeway at the same time on any given day could have widely varying outcomes, from a crawl to a nice flow, depending on how each driver chooses to respond to the actions of drivers around them.  

This makes such phenomena hard to model mathematically, because there’s so much uncertainty in the way that components of the system will interact with each other, in the future, and how dramatic an impact that can have on our outcome.  

It also, per the sort of neuroscience discussed in books like Laurence Gonzales’s Deep Survival (DpSv review + notes), means that it is extraordinarily difficult to have cogent intuition about such things – our brains are not well-equipped to handle this sort of load cognitively, let alone intuitively.

The truth is that when it comes to the sort of macroeconomic cycles Marks is talking about, there are so many inputs – and so many outputs – that it seems unlikely that “in the middle” of the distribution, we’ll be able to accurately assess the probabilities often enough to do ourselves more good than harm.

Nor, even with perfect data, would the right answer be apparent.  Take a seemingly simple question: is a bank solvent? It’s not really a matter of simply running numbers on the balance sheet.  Practically any bank, even a strong one, could become insolvent if all of its depositors, en masse, suddenly decided for some reason that it was insolvent.  

Conversely, banks teetering on the edge of solvency could find a way to fix the situation if depositors are blase and choose to go with the equivalent of “pretend and extend” – i.e., not make a run on the bank trying to get their money back, even if the bank seems to be in trouble.

Throwing a further wrench into all of this is social proof – what one depositor does may well be highly influenced by what his depositor friend down the street does.

So, you could have funny situations where, based on the largely unknowable and unpredictable decisions of the individuals involved, a reasonably well-capitalized bank could go under, while a reasonably poorly-capitalized bank could be fine, under the exact same economic circumstances.

This is probably why Munger and Buffett have, as far as I’m aware, tended to take the approach of simply finding good swimmers, and letting the tide do what it may.

Two Tylenol: Dead Headache.  Twenty Tylenol: Dead Liver.

Before I wrap up, I think it’s important to point out some caveats in favor of Marks.  For example, there are path-dependency effects to starting your career in the middle of a downcycle, that can depress your long-term earnings.

Indeed, it’s not so much that I disagree with all of his points; in fact, I think many are cogent and correct, and he does a great job with some of the analysis.  Indeed, it would probably be a nudge in the right direction for the average retail investor who buys high and sells low.

But most of Marks’s readers are far more sophisticated than that, and they’re already trying to be fearful when others are greedy.  Such an approach is not new to his audience. So it’s more a problem of dose-dependency – an important mental model I discussed in my most recent investor letter.  Some is good; more is not always better.

At the extremes – say, the top and bottom deciles, that are easy to identify by simply looking around – it’s obviously prudent to buy low and sell high, and not terribly difficult to do so.  If U.S. market indexes are at multi-year lows and nobody wants to buy any stock at any price, it’s probably a good time to buy stocks.

Conversely, if everyone and their high school dropout neighbor are making tons of money with no real experience or skills – whether they’re buying some tech IPO circa 1998, flipping houses circa 2006, buying Bitcoins circa 2018, or blogging about 3D printing circa whenever that was – then it’s probably a good time to cash in your chips (in those asset classes).  That said, most of the time, it isn’t so cut and dried whether there’s excessive optimism or pessimism.

Continuing in favor of Marks, there are certain industries where there are, in fact, reasonably predictable cycles.  Failing to understand these cycles can spell near-certain doom for investors.

Here’s one tangible example.  Here and elsewhere, I’m violating the principle of “criticize generally, praise specifically,” but the firms I’m referencing are run by Big Famous Important People and I’m, well, me.  (Cue the classic line from How To Train Your Dragon.)

In October 2013, Kerrisdale Capital published an exhaustive research piece on publicly-traded Lindsay Corporation (LNN), one of the leading players in the oligopolistic market for “center-pivot irrigation” (used by farmers to increase yields).  It was an impressive piece of research – Kerrisdale interviewed dozens of dealers in geographies as far-flung as Brazil and Ukraine, clearly demonstrating some deep industry insights on Lindsay’s competitive position.

But the thesis didn’t work, and the research proved essentially irrelevant.  It suffered from some of the problems with primary research I’ve discussed previously.  I’ve often sent this LNN report to young aspiring value investors and asked them to see if they could find the flaw.  

Summarily, for those of you who aren’t interested in puzzle-solving: one of Kerrisdale’s core assumptions was:

Our… model… grows revenue by 15% a year until FY 2018, in-line with Lindsay’s historical rate.

This wasn’t a good assumption, nor did it turn out to be true.  Here’s LNN’s top line from 2009 – present:

I’m not entirely sure how Kerrisdale came up with this analysis, but Lindsay’s long-term historical growth rate was nowhere near 15% per year – it may have been that for a short period of time during an upcycle, but agriculture suffers from a boom/bust dynamic where farmers, flush with cash during good years, buy lots of equipment… then massively cut back on spending when the rain gods are unkind and leave the fields parched.  

Lindsay has been publicly traded for a long time, so it’s not difficult to look back historically and figure out what the real long-term growth trend was.  In an analysis I’d written in 2016, I noted:

Given that [center-pivot irrigation] penetration was sub-35% (of total irrigation) [in 1995], and is around 50% today, how can you project a higher growth rate for [North American] equipment now than then?

Notably, [per Lindsay’s annual report], irrigation sales in 1995 were $88.8 million (down from $94.3 million in 1994). Total irrigation sales in 2015 were $450 million. Admittedly, we’re at a trough and not a peak today, but that works out to about an 8% CAGR over 20 years by my math (including both U.S. and international).

Even if you take 2013 numbers of $626 million, and use 18 as your denominator, you only end up with an 11% CAGR – far below the teens growth expectations many bulls were using. Specific numbers will obviously bounce around depending on how you pick your start and end dates.

Still, I think this demonstrates that the long-term track record makes it very hard to project annualized teens growth going forward, unless [something] catalyzes more dramatic adoption.

So, to the point Marks makes, in a sector like ag, it’s important to have some awareness of where you are in the ag cycle – if you start at a trough, and draw a line up to boom times, you’re going to get bad numbers that don’t represent the long-term trend.

That said, Kerrisdale doesn’t deserve all of the criticism here – I deserve some too.  Note as well that despite my best efforts, I whiffed in calling 2015 a “trough” – 2018 Irrigation revenues for Lindsay are merely ~$440MM, up from ~$420MM in 2016 and 2017, down from ~$450MM in 2015 and ~$540MM in 2014.  

While I didn’t think LNN was a good value in 2016, I did think that their results in irrigation would probably improve over time from there.  And I was wrong.  This just goes to prove that even in an industry where the cycle is quite meaningful and relatively predictable, it’s still, to a great degree, a fool’s errand trying to time it.  (Hence why most smart investors I know tend to avoid heavily cyclical industries.)

Of course, agriculture is merely a limited case: at the other extreme, markets for goods like toothpaste and water are about completely acyclical.  While some industries, like construction and mining, can be highly cyclical, most industries are more in the middle – but far closer to “acyclical” than “highly cyclical,” directionally speaking.

So, as we discussed, the secular trend line (whether that’s company growth or total shareholder return from cash flow plus growth) vastly outweighs the impact of the cycle.

There are other good points Marks makes as well – he has one about homebuilders that touches on n-order impacts; I discuss a similar point (with the example of retailers and customer personalization technology) in the zero-sum games mental model.  

Ultimately, though, the broader message of the book is flawed, and leads readers down a dangerous path.


I’ve been fortunate to live in a place where – to use a bit of financial lingo – things have always “gone up and to the right” (i.e., gotten better and more prosperous over time).  Over the past few decades, Dallas Ft. Worth has been a very strong economy; even the 2008 financial crisis was far milder here than in many other parts of the country (and, contrary to popular opinion outside of Texas, it had very little to do with shale / fracking.)

On an even more micro level, I’ve spent more or less my whole life in one of the wealthiest suburbs of the Metroplex – which went from being a farm town with cornfields (when my dad moved in about four decades ago) to a town with one grocery store (when my mom moved here roughly three decades ago) to a town with (gasp) two grocery stores, to a desirable suburb, to an extraordinarily desirable suburb.

But the concept of things not always going up and to the right isn’t unfamiliar to me: my dad’s engineering career was, for most of my childhood, anything but up and to the right.  Long story short, a number of factors (including repeated offshoring of the facilities he worked in) put us in a financial hole from time to time.

Still, thanks to schema, I tended to view this as more of the exception to the general norm: my dad was the one exception among a sea of contradictory datapoints in my leafy suburb.  It wasn’t until this summer, when I – for the first time – visited the Rust Belt, that I started to think a little more deeply about how and why things don’t always go up and to the right.  There are parts of the world where my dad’s experience was not the exception, but the norm.  Where things went down and to the right, down and to the right, and then down and to the right some more.

A rusted railcar at the Soudan Underground Mine in Minnesota.  No cycle is bringing this back to life.
A rusted railcar at the Soudan Underground Mine in Minnesota. No cycle is bringing this back to life.

After coming home from my vacation, I read the book Janesville by Amy Goldstein, about the struggles of workers in one small Wisconsin town when the GM plant shuttered during the financial crisis – and, while that book wasn’t very good either, it did at least underscore some of the thoughts I presented here.  

Whether we’re talking about our careers, our investments, or our business decisions, the cycle is usually the least of our concerns – it’s the secular issues that get us.  We need to, in other words, position ourselves somewhere – anywhere – to take advantage of large positive carries that go “up and to the right.”

If we do that, the cycles, like the tides, will wash themselves out over time.  As long as we use a margin of safety in both our personal lives and business decisions – i.e., not, as Munger would put it, risking things we have and need for things we don’t have and don’t need – we’ll be just fine.

Trying to time the cycle: that’s one of those things we don’t have, and don’t need.  And we shouldn’t give up what we do have, and do need – i.e. the secular trend – in a fool’s errand to chase the cycle.

Last month’s memo: If I disappeared… would you notice I’m not here?

If I disappeared… would you notice I’m not here? (Mental Models Memo, September 2018)

Let’s talk about sex.  

Or, more specifically, whether or not it sells as well as its cliche.

David Ogilvy, often lauded as the “father of advertising,” created possibly the first American advertisement to feature a naked woman.

Unfortunately for Ogilvy, the advertisement was terrible.  It wasn’t worth the paper it was printed on.

Why?  Well… not because it wasn’t sexy.  Ogilvy, for one, thinks it was. (He admits he’s a little biased.)

But the naked woman had nothing to do with the Aga cooker Ogilvy was trying to sell.  The lady was salient.  The kitchen appliance, sadly, was not.

As Poor Ash’s Almanack readers know if they’ve read the mental model, memory works via association.  The advertisement created no memorable association between naked women and cooking appliances, nor were readers likely to have a pre-existing one (unless they had some weird, weird hobbies).  

So people remembered the lady, and forgot the Aga Cooker.  At least in this case, sex didn’t sell.

At the other end of the spectrum, but sticking with the theme of selling cooking appliances, it’s hard to get less sexy than a blender.  

So how did a clever marketer get a blender to go viral on a miniscule budget – transforming the company behind it into a household name?

It sounds impossible.  Blenders are profoundly unsexy.  I mean, just think about it. Directionally, blenders are about as good at conversation as a dead doornail.  Curves usually mean something has gone horribly wrong in your culinary endeavors.  And – to paraphrase Warren Buffett – you can fondle your blender, but it won’t respond.  

Blenders, then: the epitome of function over form. They’re the twenty-two year old Honda Accord of kitchen appliances.  No points for style, but they’ll get you from point A to point B in one piece… or, I guess, in many very small blended pieces.  The metaphor sort of breaks down here, just like the kale I’m pureeing. (No, really, kale puree’s amazing.  Try it.)

So anyway: a blender, not usually primo Instagram selfie material, would probably rank dead last among its graduating class in voting for “most likely to become a YouTube star.”

Yet one did just that: turns out some blenders aren’t as dull as their blades.  Blendtec’s “Will It Blend” advertising campaign, featuring their nifty blenders pulverizing everything from two-by-fours to iPhones, helped launch the brand into hundreds of thousands of kitchen cabinets – including mine.

A scene from BlendTec's "Will It Blend" ad campaign.

Ogilvy would’ve been proud.  One of his catchphrases, which we’ll come back to: you can’t bore people into buying your product.  So if your product is boring, add a few pieces of flair – but in a way that keeps attention on the product.

Advertising for the… intellectual?

Advertising may seem like a weird topic du jour for me to suggest you dive into.  It’s not a field typically associated with, well, intellectualism. Madison Avenue has a similar reputation to sales desks on Wall Street: the domain of former jocks, not nerds.

Indeed, many intelligent people I know fall into one of two camps as it regards advertising:

1. They disdain advertising – believing that it may be effective in convincing other people, but not us.  We’re smarter than that.

2. They dislike advertising – believing that good products sell themselves, and advertising ranks on the moral scale somewhere between “multilevel marketing” and “billboard lawyers.”  (I’ll leave it up to readers to determine which end of the scale is which.)

I prefer to view advertising as simply a force, akin to gravity.  And what a force it is: as contrarian serial entrepreneur Peter Thiel sagely observes in Zero to One (Z21 review + notes):

“In Silicon Valley, nerds are skeptical of advertising, marketing, and sales because they seem superficial and irrational.  

But advertising matters because it works. It works on nerds, and it works on you.  You may think that you’re an exception; that your preferences are authentic, and advertising only works on other people.

[…] but advertising doesn’t exist to make you buy a product right away; it exists to embed subtle impressions that will drive sales later.  

Anyone who can’t acknowledge its likely effect on himself is doubly deceived.

It’s important to understand forces that may affect us.  We have to respect them, even if we don’t like them.

Forces don’t inherently have moral dimensions: the current that sucks a swimmer out to sea, or foils a naval invasion, isn’t good or bad.  It just is: a force of nature we can choose to succumb to, avoid, or harness.

And as we discussed in last month’s memo – Resilience from Xerxes to Taylor Swift – successful execution of any strategy requires identifying these forces, and either harnessing them to our advantage, or at the very least finding ways to skirt around them so we’re not swept out to sea.

It turns out advertising can be intellectual, too.  Opining on the culture of his eponymous advertising agency Ogilvy & Mather – which had industry-leading profitability, I might add – David Ogilvy put it in a way that I think Poor Ash’s Almanack readers very much agree with (and should share on Twitter):

We pursue knowledge the way a pig pursues truffles. - David Ogilvy Click To Tweet

I confess that I had never heard of Ogilvy until my friend Jon Glatfelter – a marketing professional – highlighted Ogilvy’s books in the same monthly Reading List book recommendation that brought me (and thus you) the delightful The Genius of Birds (GoB review + notes) by Jennifer Ackerman.

Jon’s prose (which Ogilvy would admire) convinced me that the books were worth a look.  The first few paragraphs of The Unpublished David Ogilvy (Oglvy review + notes) did the rest: Ogilvy’s outsider, multidisciplinary, principles (i.e. mental models) based approach to advertising is well worth learning from.

Between that, Ogilvy’s eponymous Ogilvy on Advertising (OnA review + notes), and the more modern, research-driven Contagious: Why Things Catch On by Wharton professor Jonah Berger (vrl review + notes), we have a lot to talk about this month.

Without further ado, here are three of the highlights of the mental model latticework interactions I took away from studying American advertising through the ages.  For the rest, you’ll have to read the books (and my notes thereon).

Disaggregation x Utility

One of my best friends, Clayton Young, discovered why Buzzfeed exists.  Clayton runs a Japanese small-cap research newsletter called Kenkyo Investing, and focuses on creating valuable content to help investors learn about under-the-radar Japanese investment candidates.

The problem is, no matter how awesome Clayton’s content is, his content has a gatekeeper.  That gatekeeper is called the headline. If it’s interesting, people will click it. If it’s not, people won’t click it.  The headline has a vastly disproportionate influence on whether or not anyone discovers Clayton’s insightful research.

Clayton is the sort of person who prefers to focus on research rather than brainstorming snappy headlines – but he’s, grudgingly, had to make the business decision to spend a little time on the latter.

Clayton’s discovery, of course, is not new – it’s a rediscovery of something generations of copywriters have known.  And, in a sense, like much of advertising theory, it’s merely a repurposing of the lessons collected by Dale Carnegie in How To Win Friends and Influence People (HWFIP review + notes)

Carnegie, in turn, was probably not wholly new, either.  But that’s the power of learning timeless principles like mental models.

Most readers are probably aware of the importance of headlines and introductions; we all remember being taught how to do the “elevator pitch” when we were in college.  

But David Ogilvy offers an unusual and important insight: while the headline has to be carefully tailored to get people to read the body copy, and thus must not waste a word, one can take a different approach to the back end of the body copy.

Many (including Ogilvy himself) stress concision.  But there’s also a danger in being too concise: Ogilvy, smartly, notes that people who are reading deep into your body copy have self-selected as people who are interested enough in what you’re selling to want lots of information on it.  

So give them more!  Ogilvy’s research found, counterintuitively, that longer, more informational advertisements sold better than shorter, more information-poor ones.  So did research by famous direct-mail copywriter John Caples.

This is a phenomenal example of using disaggregation to maximize your utility: breaking a problem (how to write the most effective copy) down into its constituent parts.

Ogilvy similarly applied disaggregation and utility to asking whether or not advertising firms should praise “creativity.”  He notes that “creative” advertising may win awards… but “good” advertising rings the cash register.

So be careful what KPIs you’re tracking: you get what you measure.

Salience x Memory x Incentives x Base Rates

“Don’t let’s be dull bores. We can’t save souls in an empty church.” - David Ogilvy Click To Tweet

Among Ogilvy’s many loves in life, perhaps none exceeded that of what he called “factors.”  In another analogy involving truffles (hey, he had a thing for France), Ogilvy quips:

“As a copywriter, what I want from the researchers is to be told what kind of advertising will make the cash register ring… plus and minus factors…

a blind pig may sometimes find truffles, but it helps to know that they grow under oak trees.”

It’s subtle, but brilliant: you can search as hard as you want for truffles in an aspen grove, but you ain’t gonna find them.  Ogilvy’s “plus and minus factors” are, in other words, base rates – they won’t guarantee that you’ll find a truffle, but they’ll give you the highest starting probability of doing so.  

Ogilvy documented dozens of them.  Black type on white background is easier to read than white type on black background.  Headlines that include a promise sell better. And so on and so forth. 

There are tangible demonstrations of these factors at use in Ogilvy on Advertising (OnA review + notes) – I found it really engaging / educational to work through the pictured ads looking for factors.  Both the ones that Ogilvy mentioned… and the ones he didn’t.  (Where would the fun be if I told you everything?)

One of these factors may not matter; three may start to.  When you amass 90-plus, as Ogilvy did, you’re starting to talk about a meaningful advantage right out of the gate.  It’s the ad-agency equivalent of a latticework of mental models. No wonder Ogilvy & Mather was so successful.

Are these factors hard and fast rules?  No, of course not – Ogilvy observes:

“I am sometimes attacked for imposing ‘rules.’  Nothing could be further from the truth. I hate rules.  

All I do is report on how consumers react to different stimuli… a hint, perhaps, but barely a rule.”

It’s like Dr. Atul Gawande states about checklists in The Checklist Manifesto (TCM review + notes): they’re supposed to turn our brains on, rather than off.  Base rates clue us in to the starting point that’s statistically most likely to succeed – but it’s up to our judgment to refine the exact approach from there.

The concept of “factors” flows through into the much more modern Contagious: Why Things Catch On (vrl review + notes).  Wharton professor Jonah Berger brings Ogilvy’s concepts into the modern era: in the era of “sharing” and social media, what causes some products or advertisements to “go viral” – while others languish unviewed in the dusty corners of the internet?

I love Berger’s approach – he’s cognizant of survivorship bias and seems to have set up his research to make sure he’s not falling prey to “connecting the winning dots,” as Phil Rosenzweig of “The Halo Effect” (Halo review + notes) might put it.  But he does come away with some useful base rates on what makes things more likely to be shared.

Reductionistically, since the details are beyond the scope of this memo, we’ll summarize a few key items – all of which Ogilvy seemed to have predicted, by the way.

First, to loop back to the intro, salience – things that stand out as unique, interesting, or unusual are more shareable.  As Ogilvy said, you can’t bore people into buying your product – so make it interesting.  Have some flair.

For example: a blender making a smoothie isn’t that exciting.  No flair. But a BlendTec making, from scratch, piping-hot tortilla soup in front of an appreciative crowd at Costco – now that’s exciting.

It’s so exciting that even a moody, hard-to-impress tween clad in a sulk and all black (yours truly!) begged his parents for years thereafter to buy that blender.  

(Which they eventually did; I promptly informed them that – screw property rights – it was mine and I was taking it with me whenever I moved out.  A decade later, the friendly family disagreement is still ongoing.)

Clearly, that blender has way more than the minimum required flair.  In fact, I’d estimate it has at least 37 pieces of flair.

But the critical thing here is that the salience / flair / sexiness has to relate to or, better yet, critically involve the product.  BlendTec accomplished this: you can’t really tell the story of the tortilla soup (or the two-by-four, or the iPhone) without mentioning the blender.

This isn’t always the case, though.  Berger points out that many “viral” advertising hits – like Evian’s “Roller Babies” commercial or one casino’s sponsorship of a guy crashing Olympic diving with a belly flop – fail to generate any impact at all, because, as with Ogilvy’s naked lady, consumers remember the funny/cute/shocking commercial, and completely forget what it was selling.

Conversely, consider good examples of “stunt marketing” from our latticework of mental models: Sam Walton’s panty sales in the early days of Wal-Mart, which drew all the ladies of town into the store, and Marc Benioff’s wild stunts at Siebel conferences, which launched Salesforce into the limelight.  

Go read about them in Made in America (WMT review + notes) and Behind the Cloud (BtC review + notes) respectively – and reflect on the relationship to what Berger/Ogilvy have to say here.

Second after salience in my mind: utility and incentives.  Give consumers something useful, and they have an incentive to share it with friends and family.  Self-explanatory.

Finally, last but not least, storytelling: it’s the human operating system.  As Berger puts it:

“Stories provide a quick and easy way for people to acquire lots of knowledge in a vivid and engaging fashion.”

This more than makes up for any nuance that may be lost in the process; Ogilvy consistently highlights “story appeal” as important.  

In fact, in The Unpublished David Ogilvy (Oglvy review + notes), he admits to making up a certain story to prove a broader (true) point.  

Poetic license, he calls it, the king of honest and factual advertising – so no wonder it turned out to be one of Berger’s six factors.

See Contagious: Why Things Catch On (vrl review + notes) to learn about the rest of them.

Tradeoffs / Opportunity Costs x N-Order Impacts x Local vs. Global Optimization

One of the fun things about Ogilvy is that he’s clearly a long-term thinker.  Much as Ogilvy delighted in portraying himself as a mercenary ringing the cash register with wild abandon, he was also very thoughtful about walking the tightrope between stimulating short-term sales and protecting the long-term interests of his clients.

Ogilvy frequently approached this local vs. global optimization problem by taking the long-term view:

“I find that most manufacturers are reluctant to accept any… limitation on the image and personality of their brands.  They want to be all things to all people…

And in their greed they almost always end up with a brand which has no personality of any kind – a wishy-washy neuter brand.”

He focused on similar tradeoffs elsewhere: I mentioned, for example, how Ogilvy & Mather wasn’t the biggest agency, but it was unusually profitable in a notoriously thin-margin industry.  Ogilvy was keenly aware of his opportunity costs: using the analogy of scraping barnacles off a ship to keep it moving forward, he noted that not every client was worth pursuing, and not every service line worth offering.

Why spend time, energy, and resources inflating the top line if it doesn’t lead to bottom-line profitability?  

Finally, Ogilvy was thoughtful about thinking about long-run effects in another way: he well understood the n-order impacts of certain behaviors.  Continuing to rail on the shortsightedness of manufacturers trying to boost short-term sales, Ogilvy discusses the dangers of discounting:

“Manufacturers are buying volume by price discounting… they are training consumers to buy on price instead of brand.

… there used to be a prosperous brand of coffee called Chase & Sanborn… They became addicted to price-offs.  Where is Chase & Sanborn today? … dead as a doornail.”

I discuss a modern iteration of this phenomenon in more depth in the zero-sum games mental model.

So… would you notice?

It felt like I had my very own lake in Minnesota.
Weight’s at a premium when I’m backpacking… but I’ll always make room for a book. Or three.

Whether or not you’re interested in advertising yourself – or your company – there are tons of lessons to learn from studying this often overlooked field.  

Ultimately, the waves of time wash away all but the strongest imprints on the beach.  Successful advertising aims to make as deep an imprint as possible – so you stand out from the crowd, and so your legacy lasts well beyond your ad campaign.

To return to the title: I think the song stuck in my head as I read these books sums up the challenge particularly well.

You only hear what you want…

I can’t see you; you can’t see me.

We’ll be lost in here together.

If I disappeared… would you notice I’m not here?

Would you notice I’m not here?

– “Hear What You Want” by Real Friends

Resilience from Xerxes to Taylor Swift: Hedgehogs, Conditioning, and Trait Adaptivity (Mental Models Memo, August 2018)

Theory extracts lessons from infinite variety. It sketches, informed by what you need to know, without trying to tell you too much. For in classrooms, as on battlefields, you don't have unlimited time to listen. - John Lewis Gaddis Click To Tweet

Isn’t that a great quote?  It represents what we’re trying to do around here by building a latticework of mental models.

Welcome to Mental Models Memos, a recap of the most important lessons learned by Askeladden each month, overviewing what we’ve added to the ever-expanding encyclopedia of mental models that is Poor Ash’s Almanack.  In the vein of Howard Marks’ famous memos, I hope these will be as entertaining as they are educational.

Conditioning x Correlation vs. Causation x Trait Adaptivity: Hedgehogs, Swamps, and Overlearning Generals from Particulars

Why do we fall, Master Wayne? So that we can learn to pick ourselves up. - Alfred Pennyworth Click To Tweet

In very different contexts, the two best books I read this month are tied together by the concept of resilience.  [If you’re impatient, the books are “On Grand Strategy by Pulitzer Prize winning historian John Lewis Gaddis (OGS review + notes), and Surviving Survival” by Laurence Gonzales (SvSv review + notes). ]

Bouncing back from adversity can be challenging.  Shortly after the launch of PAA, one reader emailed me seeking advice on a thorny career challenge.  After experiencing a professional setback that, as far as I could tell, was in no way their fault, they felt like a shipwrecked survivor lost at sea, clinging to a tenuous fragment of driftwood – not sure where they were or what to do next.  In their words:

“I feel overwhelmingly underachieving and lost. The past [year] has been especially hard for me… I sometimes no longer recognize myself. I know I experience [negative emotions], but I didn’t know I could be affected as much as I did in the past [year].”

They’re not alone – turns out that feeling lost is a recurring condition of being human.  One purpose of history, says Gaddis, is to make us feel less lonely,” and the same can be said for other types of reading.

Feeling lost can be terrifying, as explored in Laurence Gonzales’s fantastic Deep Survival (DpSv review + notes) – an amazing book about cognition / intuition / habit / stress, among other mental models in the latticework.x It analyzes(via well-told stories) the fascinating neuroscience of why some people live – and some die – when faced with real-life shipwrecks, and other impossibly awful situations.

Gonzales’s follow-up book – Surviving Survival (SvSv review + notes) – covers how to find your way back from being existentially rather than physically lost, and honestly, it might be even better than his first (very high praise, coming from me).

Again with the phenomenal juxtaposition of storytelling and neuroscience, Gonzales examines how surviving is merely half the battle – getting through a traumatic event is one thing; getting over it, unfortunately, is a completely different beast.  As Gonzales puts it poetically about a lady who survived a crocodile attack, she never really escaped the crocodile: after the attack, it took up residence in her head, even when she was inside a locked house on very dry land.

Resilience, Gonzales explains, is both an art and a science.  What makes it so difficult is the interaction of the conditioning and trait adaptivity mental models: our brains are hardwired to encode what Gonzales calls “emotional bookmarks.”

I walked away from the book with a much better understanding of the physical, neurological basis of our tendency to mix up correlation with causation.  Our brain’s auto-associative tendency is generally adaptive – it helps us rediscover pleasures, and avoid losses.

Especially the latter, thanks to loss aversion – better safe than sorry.  We’ve all heard the Twainism about the cat that once sat on a hot stove and never again sat on a cold one.

But of course, like any adaptive trait, its adaptivity is context-dependent; put differently, drop the greatest land predator in the middle of the Atlantic Ocean, and they’ll become fish food.  Just as learning too little from experiences can be dangerous, so too can learning too much.

Gonzales explains, in reference to people trying to recover (both physically and emotionally) from animal attacks or domestic violence:

“In the brain, the cardinal rule is: future equals past.  What has happened before will happen again.  

In response to trauma, the brain encodes protective memories that force you to behave in the future the way you behaved in the past.  

The trouble was that in all likelihood, [you] would never again face a similar hazard.”

To borrow terminology from Gaddis’s On Grand Strategy, Gonzales is describing our emotional system as, unfortunately, a natural hedgehog – it knows one big thing, which is to keep us away from what it thinks is bad, and steer us toward what it thinks is good.  Parts of our brain are hedgehogs-with-a-hammer; parts of our brain do not have a latticework of mental models: they operate on just one premise.

Using our cognition to make the other parts of our brain more fox-like to outsmart our natural hedgehog – and thereby getting the single-minded hedgehog focused on a different goal, since it can’t hold two competing ideas in its mind at once – turns out to be key.

Half a world and several millennia away from victims of brutal animal attacks or domestic violence, John Lewis Gaddis explores, in the amazingly concise On Grand Strategy (OGS review + notes), very similar underlying mental models.

Gaddis extends the zooming-in, zooming-out, building-understanding-through-metaphor approach that he extols so beautifully in The Landscape of History (LandH review + notes), deftly taking notes from  Leo Tolstoy and Isaiah Berlin (the latter of fox and hedgehog fame) and applying them, in a very multidisciplinary way, to understanding the grand strategies of historical figures – and why they succeeded (or failed).

Gaddis notes, similarly to Gonzales, that humans have more than one system for approaching the world, and benefit from this because sometimes one is adaptive while the other isn’t:

“Foxes were better equipped to survive in rapidly changing environments in which those who abandoned bad ideas quickly held the advantage.  Hedgehogs were better equipped to survive in static environments that rewarded persisting with tried-and-true formulas. Our species – homo sapiens – is better off for having both temperaments.”

Indeed, Gaddis, like Gonzales, is nothing if not multidisciplinary.  He advocates using different perspectives (i.e., schemas) to discern patterns across time, space, and scale and build richer understandings of the world around us.  He would, I think, agree with one line from Surviving Survival – perhaps the single best piece of advice I’ve ever seen – where Gonzales, discussing multicausality, advocates:

“blanketing a problem with overlapping solutions.”

Of course, the flip side is that resources aren’t infinite, which engenders the need for leaders to make utility-focused tradeoffs: walls, as Gaddis puts it,

“buffer what’s important from what’s not.”

It’s important to not get the two confused – and, problematically, they can often conflict in the short term.  What does it mean to head towards your goal?

Gaddis highlights the tension between a long-term sense of direction and near-term obstacles.  He quotes Spielberg’s 2012 drama Lincoln to illustrate. Fictitious (as opposed to Honest) Abe explains:

“A compass, I learned when I was surveying… it’ll point you true north from where you’re standing, but it’s got no advice about the swamps, deserts and chasms that you’ll encounter along the way.

If in pursuit of your destination, you plunge ahead heedless of obstacles, and achieve nothing more than to sink in a swamp… what’s the use of knowing true north?”

So many of the mental models in the latticework show up here – local vs. global optimizationopportunity costsstructural problem solving, and many others.  Resilience requires bridging the gap between the two poles of fox and hedgehog.  Distilling lessons from millennia of major historical events, Gaddis observes:

“Assuming stability is one of the ways ruins get made. Resilience accommodates the unexpected.”

The problem, of course, goes back to what Gonzales was talking about: over-learning from short-term conditions in a dynamic environment that can and will change – perhaps dramatically – making those lessons neutral at best and counterproductive at worst. 

And Gaddis highlights how even for world leaders, emotions and short-term pressures can get in the way of clear thinking: he’d probably appreciate how Laurence Gonzales put it in Surviving Survival (SvSv review + notes), talking about cognition and intuition:

“The brain can seem at times like a confounding bureaucracy with different departments arguing with one another.  The amygdala is not in the Rational Department. It doesn’t care that, at times, its responses might make no sense.  The emotional system can’t allow you to think about your reactions.

That takes too much time. If you stop to think, you’ll be eaten.  So it’s tuned for instant reaction… Under stress, you don’t invent new strategies.  You revert to automatic behaviors.”  

Gonzales doesn’t know it – he’s talking about recovering from a crocodile mauling – but, zooming out and in as Gaddis is wont to do, Gonzales accidentally does a pretty good job, there, of summarizing why King Philip – and Napoleon – managed to lose on a spectacular scale despite commanding massive armies with nearly infinite resources compared to their opponents.

Gaddis explores how we, whether as individuals, businesses, or nation-states, can most effectively design and implement strategies to get us to our desired destinations while avoiding those swamps in the middle.  (It has a lot of investment implications, as will be discussed in my upcoming Q3 letter in a few months.)   

One important takeaway: successful leaders from Octavian of Rome to Queen Elizabeth of England to President Lincoln of America used structural problem solving to their advantage, just like Richard Thaler did to help people save far more for retirement without ever noticing a lifestyle haircut.

Gaddis observes that sage leaders:

“find flows you can go with… avoid shoals and rocks… and expend finite energy efficiently.”  

Sun Tzu states that generals “should act expediently in accordance with what is advantageous.”  Going back to his earlier analogy, Gaddis notes that “wise leaders… sail with the winds, not against them.  They’ll skirt swamps, not slog through them.”

In contrast, immature, unsuccessful leaders – like Marc Antony, King Philip, Alexander the Great, and so on – confused aspirations with capabilities” and “learned limits only through failures,” such as when King Philip’s Spanish Armada was massacred.

They tried, in other words, to win through grit.  Grit is neither an effective nor sustainable grand strategy.  Gaddis formally defines the term as: “The alignment of potentially unlimited aspirations with necessarily limited capabilities.”  Opportunity costs and bottlenecks are key models here.  

This is merely the tip of the iceberg in terms of lessons from these two books.

Loss Aversion x Overconfidence x Status Quo Bias x Commitment Bias x Agency: What King Philip Could’ve Learned About Resilience From Taylor Swift

Both Gaddis and Gonzales use the extraordinary to better illustrate the ordinary.  The truth – thankfully – is that most of us will never be a President tasked with abolishing slavery while keeping the Union together.  Most of us will never have to recover from the physical and mental aftereffects of a shark attack or an IED.

And, indeed, many of the practices that are adaptive in those situations may not be adaptive in our less-critical situations.  But the underlying principles remain equally adaptive.  Gaddis, like Stephen Covey in 7 Habits, differentiates between timeless (universal) principles and specific (situational) practices.  The goal of mental models learning is to find the former, our “true north” (by reading broadly) and then apply the latter, on a situation-by-situation basis (avoiding swamps along the way).

So let’s examine a more “everyday,” relatable example.  As often happens, both myself and one of my best friends, in the past six months, were faced with the unfortunate (and emotionally difficult) need to get over some Stockholm Syndrome and extricate ourselves from abusive, toxic relationships – in my case from a close friend whose constant deceit, massive ego, and profound lack of empathy all represented directionally sociopathic behavior; in my best friend’s case from a significant other who was controlling, demanding, hypocritical, and unappreciative.

I would like to pretend that I’m above listening to Taylor Swift on occasion.  But… I’m not.  I’ll blame it on social proof, i.e. my friends’ tastes in music.  (Lookin’ at you, Todd… we all see your heartfelt appreciation for Tay-Tay, no matter how much you try to hide it.)

Once upon a time, a few mistakes ago…

When I fell hard, you took a step back, without me. You never loved me, or her, or anyone. or anything.

Yeah, I knew you were trouble when you walked in.

So shame on me. Now I’m lying on the cold hard ground.

Oh, oh, trouble, trouble, trouble.

Now, our perpetually boy-challenged Ms. Swift might be succumbing to just a touch of hindsight bias here… and I might be stretching the limits of being multidisciplinary.

But there are surprising parallels between breakups and Napoleon’s follies.  To go back to On Grand Strategy, fundamentally all strategy failures, in Gaddis’s reckoning, result from confusing unlimited aspirations with necessarily limited capabilities.”

Aspirations, Gaddis stresses, must be proportioned to capabilities.  In one sense, wanting to rule an empire on which the sun never sets is really no different than wanting to have a relationship with a specific person: there is a tangible end (true north on your compass) that, for whatever reason, is desirable to you.

And that’s fine.  It’s a free country.  But that aspiration will be bottlenecked by your necessarily limited capabilities – if a bunch of swamps lie between you and your always-sunny empire (or someone you care about), then your capabilities had better be up to the task of swamp-crossing.  If they aren’t, well, either you need to find better capabilities, or you need to lower your aspirations.

Of course, lowering your aspirations is never easy.  Loss aversion kicks in: the aspirations have become part of our endowment, and we’re loath to give them up.  There were, perhaps, few objective senses in which King Philip needed to conquer more territory than he already controlled; the same could go for Alexander and Napoleon.

But as a friend of mine put it (eloquently, I thought): many of us are moths flying toward a flame.  The flame is probably terrible for us in a very clear and non-negotiable objective sense, but we still keep chasing it anyway.

The world, as it tends to do, singes our wings when we fly too close, offering us tangible evidence that we should take another path.  But, thanks to overconfidence, we often dismiss that evidence, like King Philip did – or, worse, thanks to commitment bias, we point to all the investment we’ve made as a justification for staying the course (like Napoleon did), even if our path leads us directly into the flame… or Russian winter.

Or maybe it’s simple status quo bias: as Gonzales puts it in Surviving Survival, (SvSv review + notes):

“most people simply continue on an unconscious course throughout life without ever stopping to consider whether a different approach might be more effective.  When something really bad happens, it presents an opportunity to wake up from our life on autopilot, our state of mental models and behavioral scripts, and deliberately choose a new strategy.”

So we keep on keepin’ on.  The solution, of course, according to Gaddis, Gonzales, and the late, great Stephen Covey, is simply to CHOOSE another course of action – to use our agencyThis is the bigger half of resilience: to look at the flame and say no thanks, I don’t want to get burned again.  Gonzales, again:

“You create the world by your belief in it, so it’s important to believe this: there really is a path.  It takes you not back to your old life but onward to the new one.”

Neither Xerxes, nor Philip, nor Napoleon needed to meet the ends they did: they created the conditions that led to their own demise.  Simple (albeit difficult) choices could have led elsewhere – to more prosperity.

And this is what our boy-challenged Ms. Swift finally managed to do, unlike Xerxes and Napoleon and the rest of them: take Alfred Pennyworth’s advice to pick ourselves up, and then, critically, to stop falling into the same well over and over again.

Kind of offhand and in passing, Gaddis quotes a colonial governor who found out something that Buffett and Munger have found out too: the base rate of changing people’s behavior is… well, it’s not very good:

“I imagined, like most young beginners, that… I should be able to make a mighty change in the face of affairs, but a little experience of the people… has absolutely cur[e]d me of this mistake.”

And yet that is the trap that many people in relationships fall into, even if it’s a mistake we’ve made before: me, my friend, and our dear friend Taylor.  Thinking that this time, our capabilities (or those of others) will finally match our aspirations…

They won’t, though; there’s only one appropriate solution:

I remember when we broke up, the first time.

Saying this is it, I’ve had enough.

Then you come around again and say, baby, I miss you and I swear I’m gonna change, trust me. 

Remember how that lasted for a day?

And I’m like, I just, I mean, this is exhausting, you know? Like, we are never getting back together.  Ever.

Now, my knowledge of Ms. Swift’s discography is… limited.  Any more and I’d fall below what Gonzales calls, in Surviving Survival, the “Personal Scum Line” – the line below which you can no longer have self-respect.  It is entirely possible that Ms. Swift subsequently reverted back to old, maladaptive behaviors.  I do not wish to investigate.  For the sake of a nice clean story, we’ll leave it here.

In any event, my friend and I took a page out of Tay-Tay’s book: clearly, neither our capabilities to change others, or our respective someones’ capabilities to be fundamentally decent human beings, were well-matched to our aspirations of having a functional relationship with that person – so, since the capabilities couldn’t change, our aspirations needed to.

At some point, as Covey puts it in The 7 Habits of Highly Effective People (7H review + notes), the problem isn’t out there – it’s in here.

It is our willing permission, our consent to what happens to us, that hurts us far more than what happens to us in the first place. I admit this is very hard to accept emotionally…

But until a person can say deeply and honestly, “I am what I am today because of the choices I made yesterday,” that person cannot say, “I choose otherwise.”


And those are, it seems, some of the keys to resilience, whether as a kid or as a country, along with some other tools on the keychain.  Surviving Survival, (SvSv review + notes) and On Grand Strategy (OGS review + notes) are both great books that enriched my understanding of numerous mental models; takeaways have been incorporated in a dozen or so mental models around the site.  Enjoy!

Askeladden Capital Q2 2018 Letter: Poor Ash’s Almanack – A Learning Journey

Here is the Q2 2018 letter, formally announcing the launch of Poor Ash’s Almanack – a website with ~half a million words of content that is the best free mental models resource on the internet by a wide margin.  I’ve been working on it in one manner or another since the launch of ACM, and work accelerated through Q1 and Q2.

The letter discusses the rationale behind taking the time to build such a resource; in short, I’m following the playbook that Charlie Munger – Warren Buffett’s billionaire business partner – has laid out for improving judgment and cognition.