Knowing the Unknowable…

…or how the free market messes with our minds. As we end Marcellus’ first full financial year with healthy absolute and relative returns, we are beginning to comprehend just how profoundly market forces can wreck our clarity of thought. Whilst man’s desire to know his future is primordial, the free market taps into this desire to comprehensively destroy logical thought. We thus end up becoming shadows of our true selves – rational people reduced to illogical wrecks at best and snake oil salesmen at worst. How then can we avoid this fate? A new book shows us the way forward.

“All that we can know is that we know nothing. And that is the sum total of human wisdom.” – Leo Tolstoy, ‘War and Peace” (1867)

“I am not in the business of predicting general stock market or business fluctuations. If you think I can do this, or think it is essential to an investment program, you should not be in the partnership.” – Warren Buffett’s ‘Partnership Letter’ (1966)(Link)

On 31^st March 2020, Marcellus Investment Managers ended its first full financial year. Whilst our fund managers will write to you next week with details of how our funds performed, in this note, I will dwell on a slightly different retrospective on the year gone by.

Over the course of the year, we signed up in excess of 2,000 clients and met nearly 6,000 HNWs in India and abroad. In addition, every month tens of thousands of visitors visited our website (www.marcellus.in) and left behind hundreds of questions. In meetings, in conference calls and via emails, we tried to answer as many of these questions as we could, not just because it would lead to more business, but also because this repetitive Q&A compels us to clarify our thinking. As these questions rose to a crescendo during the ongoing Corona virus crisis, we realised that at the core of all of these queries was the same question: “Tell us, what will happen in the financial year that lies ahead of us?”.

Our response, by and large, is to say that neither we nor anybody else knows what the future will bring. But through the year, especially during the Corona crisis, we realised that not many clients like this answer. That led us to ask ourselves, why is it that intelligent people want us to become latter-day descendants of Nostradamus.

At one level, it is easy to see and say that man has always wanted to know the future. That is why the pseudoscience of Astrology is the second oldest profession on this planet. Great kings and ordinary mortals have for many millennia needed the services of a local soothsayer. However, that did not make such people any less able than they naturally were. For example, Julius Caesar’s glory as a great Roman ruler was not dimmed by his use of the Druids for astrological forecasts.

So why then today are we rendered vulnerable by our grasping need to know the future? The answer, we believe, lies in the way the free market abuses our basic needs. Let’s illustrate by using our dietary & exercise habits as an example.

Nobody needs to be given an FY21 GDP growth estimate for India or a forecast of how many people will contract Corona virus globally to know what we have to eat in FY21. We know that regardless of how the economy or Covid19 pans out, we need to get our basics right i.e. eat healthy foods like fruits & vegetables, avoid sugary & fatty foods and get regular exercise so that we can build a robust physique. All of this sounds like commonsensical stuff.

Unfortunately, however, things rarely stay as simple as that. As we become more prosperous as a society, the more propaganda is pumped into our heads as to what constitutes a good diet (is it Keto, Atkins, intermittent fasting, Dubrow, Endomorph? For a full list of currently popular diets see here).

Rationality is thus suspended as we hire dieticians who tell us what to eat knowing full well that they have to come up with something different in order to build a following/client base. The more prosperous we become, the more dieticians the free market supplies to us. Soon elementary eating decisions are no longer elementary (is more Ghee/clarified butter good for me or bad for me?). Conversely, decisions that seemed crazy once upon a time are made to come across as the way to go (eg. should I fast every day for the entire length of my working day and then stuff myself twice a day?).

Thus, something which was a basic skill – how to eat a relatively healthy diet – has become an industry characterised by moral hazard i.e. most of these dieticians have a conflict of interest with us. They are interested in building their differentiated brand and hence their franchise. You & I, on the other hand, are interested in a healthy and easy to follow diet which our grandmothers could have taught us.

Investment implications

In contrast, straightforward portfolio constructs – like investing in a dozen or so clean companies selling essential products/services with little or no competition – are, as we discover every day, sometimes considered to be debatable investments. After all, the critique of our Consistent Compounders Portfolio goes, who knows what will happen to Nestle or Divi’s Lab or Abbott India or Dr Lal Pathlabs in FY21? Maybe people will stop using these products/services due to Covid19 and run away into the forest never to be seen thereafter.

So, in these uncertain times, how can we maintain our rationality? Several answers to this question lie in a new book from our guru John Kay and his distinguished friend & co-author, Mervyn King. In “Radical Uncertainty: Decision Making Beyond the Numbers” (2020), the authors take the reader on a riveting tour of contemporary areas of decision analysis, behavioural economics, finance, and policy studies to show what is wrong with the conventional reasoning in the world of business and policymaking. What is their panacea to the pseudoscience of quantitative analysis and management jargon that pervades many investment banks, asset management houses and Boardrooms?

This “radical uncertainty” of the title of the book refers to: (a) the fact that our understanding of the present is incomplete; and (b) our understanding of the future is even more fragmentary. As a result, say the authors, we must understand ourselves and explain the world to others by way of “narrative reasoning…the most powerful mechanism for organizing our imperfect knowledge,” creating stories about the world that assimilate our experiences, the experiences of others, and whatever reliable data we are able to collate in a “world of uncertain futures and unpredictable consequences.” [In case for some unfathomable reason you want to avoid reading this absorbing book, you might want to watch this interview of John & Mervyn]

An example that John & Mervyn use several times in the book is the probabilistic assessment Barack Obama received when determining whether to launch the raid that killed Osama bin Laden. It wasn’t 100% clear that bin Laden was in that Pakistani compound, and a messed-up operation might have meant war with Pakistan. That bin Laden was killed, and things worked out in the end was by no means assured. Before he greenlighted the operation, Obama used not only the assessment given to him by his generals but also his basic assessment of the downside risk [which wasn’t very high compared to the upside of getting bin Laden].

With the far more modest resources available to us, we have, and will continue to do something similar in India. In both Consistent Compounders and Little Champs, we will invest in Indian companies who: (a) do not cook their books; (b) provide essential products/services; and (c) build impregnable barriers to entry. Such a style of investing limits downside risk – we have fallen half as much as the market over the past three months – whilst creating abundant upside opportunity.

We will then continue to use narrative reasoning to explain this portfolio construct to our audience. At the end of a milestone year for us we thank you for supporting our small business in its endeavour to provide a useful service to thousands of Indian investors.

PS: My next book – the concluding instalment of the “Coffee Can” trilogy – will be out in May. So I hope you finish reading “Radical Uncertainty” by then.

Disclosure: Nestle, Divi’s Lab, Abbott India and Dr Lal Pathlabs are part of most of Marcellus Investment Managers’ portfolios.

Saurabh Mukherjea is the Founder and CIO at Marcellus Investment Managers. He’s also the author of “Coffee Can Investing: the Low Risk Route to Stupendous Wealth” and “The Unusual Billionaires”