yego.me
💡 Stop wasting time. Read Youtube instead of watch. Download Chrome Extension

Charlie Munger: How to Invest Small Amounts of Money


9m read
·Nov 7, 2024

Guess what! I just came across a long lost clip of Charlie Munger explaining the three things he would do to generate 50% annual returns investing small amounts of money. This clip looks like it was shot on an iPhone 4, but it is Munger at his absolute best. If you want to build real wealth, you need to see it.

There's an old saying that it takes money to make money. This saying may be true, but the amount of money you need to get started generating high returns is not as much as many would believe, according to Munger. Now, let's get into the video.

"I'm Warren, and you are known for saying that if you work with a small sum capital, namely you think being ten million dollars, Warren, how we said that you could guarantee that you compound that at 50 a year. So my question is, can you provide some examples? I would kindly ask you to provide as many examples as possible and be as specific as possible. Thank you."

"Well, amen! I hear somebody who really wants to get rich at a rapid rate in specifics. That is not what we're trying to do here. You ought to leave some mystery so that you can give yourself finding your own way. You know, they've got ideas, but I've had a driver quite feel it's a lesson. I can give you a few; it's all you need, and don't be disappointed when you find the few. Of course, you've got to act aggressive. That's the wonder, sister, and I learned that indirectly from a man I never met, which was my mother's maternal grandfather. He was a pioneer, and he came out to Iowa and fought in the Black Hawk Wars and so on. Eventually, after enormous hardship, he was the richest man in town, and he owned the bank and so on."

"He sat there in his old age, and my mother knew him because you'd go to his Algona, Iowa, where he lived and had the big house in the middle of town, iron fence, capacious lawns, big barns. What Grandpa Ingham used to tell her is 'There's just a few opportunities you get in the whole life.' This guy took over Iowa when the land was the black top soil. Iowa was cheap, but he didn't get that many opportunities. It was just a few that enabled him to become proud and prosperous. He bought a few farms every time there was a panic. You know, he could lose money leasing a farm to a German in Iowa, but he only did a few things. I'm afraid that's the... you're not going to find a million wonderful ideas. These people, the computer algorithms, are good, but they have a computer that's just in the whole world; it's like placer mining."

"And of course, every end, somebody else comes in, the niche starts leeching away. I don't think it's that honorable a way to make a living, by the way. I'd rather make my money in some other way than outsmarting the trading system. So I have a little computer algorithm that just leeches off what everybody's trade. I always say that those people have all the social utility of a bunch of rats in a granary. If you create a way to make money that way, I would say that you should be very charitable with it, and you've done a lot to atone for. I don't think it's an ambition we should encourage."

"And the rest of us who aren't just leeching a little off the top because we're great at computer science, and that's what this room was full of. If you're not finding it harder now, you don't understand it. That's my lesson."

"There are three important principles you need to understand if you want to follow Munger's advice on generating high returns on small sums of money. The first principle is to look in the inefficient markets. Munger is the vice chairman of Berkshire Hathaway, and as of the making of this video, Berkshire has a market cap approaching 800 billion dollars. That makes Berkshire the ninth largest company in the world by market cap and the biggest non-tech U.S. company in the world. To most people, Berkshire's massive size would seem like a huge advantage when it comes to investing, right? Well, actually, that's not the case."

"Charlie and Warren have repeatedly said that Berkshire's size is an impediment to generating high investment returns. Because Berkshire has so much money, Warren and Charlie are forced to only focus on large investment opportunities. The odds of these large investment opportunities being mispriced, or to use an investing term, inefficient, are extremely low. On the other hand, there is a much higher probability of an inefficiency occurring when the size of the investment is much smaller. Large investors are too busy paying attention to bigger opportunities to even notice these small opportunities. This is where your opportunity comes in."

"Listen to Charlie Munger's business partner, Warren Buffett, explain this concept: 'I was working with a tiny, tiny, tiny amount of money, and I would pour through volumes of businesses and I would find one or two that I could put ten thousand dollars into or fifteen thousand dollars into that was just ridiculous. They were ridiculously cheap, and obviously as the money increased, the universe of possible ideas started shrinking dramatically.'"

"When Warren and Charlie were investing small sums of money decades ago, they had to spend thousands of hours pouring through tens of thousands of pages of financial reports to find just one potential idea. Thankfully for us, the internet has made sourcing potential mispriced stocks a heck of a lot easier. All you have to do is jump to a stock screener like this one here, and you don't need anything fancy; a free screener like this will do just fine."

"All you need is a screen that can filter by market cap and PE ratio. Set the market cap range to 10 million to 200 million and the PE ratio range from 3 to 15. The companies that meet this criteria will be small by Wall Street standards. Most professional investors have restrictions around investing in stocks below a certain market cap. For example, the fund I work at in New York City has a rule in place that makes it so you can invest in any company below a 5 billion dollar market cap. This restriction means tons of potentially great investments slip by us because these companies are simply too small."

"Additionally, companies of this size likely are uncovered by Wall Street analysts. Compare that to a company like Apple. Apple stock is covered by 31 Wall Street analysts that monitor the company's every move. The fact that virtually nobody is paying attention to these small companies increases the probability that you can find a stock that is trading well below its intrinsic value."

"Before we get to lesson number two, make sure to hit that subscribe button because it is so important to get the teachings from people like Charlie Munger to as large of a group as possible. Learning from Munger and other investing legends really positively impacted my life, and I know it can do the same for you."

"So the next lesson from Munger is to take big swings when a good opportunity comes along. The logic being that great opportunities are rare. So, when they do come along, you have to take full advantage. This point can be demonstrated by using an analogy from the sport of baseball. For my non-U.S. viewers, baseball is a bat-and-ball sport played on a field by two teams against each other. In baseball, one team throws a small round ball at a player on the other team, who then tries to hit it with a bat. The goal of the batter is to hit the ball in such a way that it will allow his team to score runs, aka points."

"According to Munger, there are some lessons from the game of baseball that can help you make money in the stock market. One of the best baseball players of all time was a man named Ted Williams. Williams wrote a book called 'The Science of Hitting.' It contains a compelling illustration of him at bat with the strike zone divided into 77 distinct squares. Williams recognized that by waiting for a pitch in his sweet spot significantly increased his chances of getting a hit. Being patient and waiting for the right opportunity offered a 40% hit rate; impatience, on the other hand, could lower his success rate to a mere 23 to 25 percent."

"Williams understood that average batters turned into great ones if they waited for the right pitch, and even the best batters turned into average ones if they swung at the wrong pitch. Munger is a big believer that this concept also applies to investing. As an investor, each day you are faced with thousands of potential investments. Think of these as the pitches in baseball. In order to invest successfully, you have to be waiting to sit patiently with your bat on your shoulder, watching pitch by pitch go by. Only when you see an investing opportunity that is perfectly in your sweet spot do you swing."

"The problem is, though, that these perfect pitches aren't all that common in investing. It can be months or even years before you finally get one. That is why when the perfect pitch does finally come, you better make the most of it and swing for the fences."

"This ties perfectly into the third lesson for Munger: don't be afraid of a concentrated portfolio. Conventional investing wisdom states that investors should have highly diversified portfolios or, put another way, people should have portfolios that consist of dozens, if not hundreds, of stocks. Munger believes that's incredibly foolish if your goal is to generate high investment returns."

"Munger has the vast majority of his family's entire net worth in just three investments: Berkshire Hathaway stock, Costco stock, and a fund managed by an investor named Lee Lou. Instead of favoring diversification, Munger advocates for a concentrated approach, where investors focus on a handful of outstanding businesses they thoroughly understand. He believes that by closely examining and comprehending these businesses, investors can make more informed decisions resulting in a higher likelihood of achieving exceptional returns."

"Munger uses the story of his friend John Ariaga to demonstrate the point. John Ariaga is a billionaire investor. Naturally, it would be fair to assume that since Ariaga is a billionaire, his net worth would consist of many different types of assets. Maybe he has a few businesses he owns and a countless number of stocks. While this may be a natural assumption, it couldn't be further from the truth, and you'll see why in just a second."

"John Ariaga made his fortune in real estate. Real estate, in its own right, is a very broad asset class. There are many different types: apartment, office, industrial, single-family houses, self-storage. Additionally, there are a near-infinite number of locations where this real estate can be located. The United States is just one of these countries. To pick from just within the United States, there are 387 what are referred to as metropolitan statistical areas. Think of this as different real estate markets, and then within each of these metropolitan statistical areas, there are countless numbers of neighborhoods from which to choose."

"The point here being that even within real estate, there are so many ways investors can diversify a portfolio. John Ariaga decided to take a different approach. He was going to be super concentrated in building his fortune. He was only going to buy real estate located within one mile of the campus of Stanford University in California. Over a 40-year period, all Ariaga did was never put down a lot of debt. When things went down, he bought, and when everyone got euphoric, he sold. That's all he did."

"I guarantee as Ariaga was building his billion-dollar fortune, he was offered investments in things outside of just that one-mile distance from Stanford's campus. For all intents and purposes, Ariaga ignored all other investment opportunities to focus on what he knew best. Ariaga's willingness to stick to what he knew best, and as a result have a massive advantage over the competition, led him to being one of the wealthiest people in the world. As Munger says, 'I would be a heck of a lot poorer if I followed conventional financial theory when it comes to investing.'"

"So there we have it. Make sure to like this video and subscribe to the channel because it's my goal to make you a better investor by studying the world's greatest investors. Talk to you again soon."

More Articles

View All
Why meritocracy is America’s most destructive myth | DeRay Mckesson | Big Think
I wanted to write about what it means that some people seemingly have to “earn” or do something to deserve access to things that we think about as basic necessities. So how hard can you work to earn access to a meal every night, or like what do you have t…
High Speed video of Canon DSLR Shutter - Smarter Every Day 40
Hey, it’s me Destin. Welcome to Smarter Every Day, and a blood vessel exploded in my eye. It’s pretty cool. It’s called a subconjunctival hemorrhage. I think it’s pretty neat. Anyway, so today I’m gonna show you a little experiment that I’m doing right b…
Sal Khan and Francis Ford Coppola fireside chat
All right, so very exciting, uh, we’re here at Khan Academy with the team, and we have some students from Khan Lab School as well, uh, with, uh, the I’d say legendary Francis Ford Coppola, uh, most known for film making. Uh, I, you know, obviously The Go…
Bryan Cranston to non-voters: Don’t let cynicism get in the way of your voice / your rights
Ready? All right. This is the 26th Amendment to the Constitution. Section One. ‘The right of citizens of the United States, who are eighteen years of age or older, to vote shall not be denied or abridged by the United States or by any State on account of …
Every Lie You Believe In
Tim Cook of Apple, Sundar Pichai of Google, Elon Musk, Jeff Bezos, the president of the United States—when you think of the people controlling the world, these names come to mind. But the truth is, while these people have a significant influence over our …
How I plan my day/week/month (realistic and flexible)
Have you experienced this before? You have so many things in your calendar, and also you want to do something, but you don’t know where to start. Because you don’t know where to start, you tend to procrastinate until the end of the day. At the end of the …