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Gaining Unconscious Competence

“Instinct—the subconscious—is much more reliable than statistics.”

—PHILIP CARRET1

 

“Nothing is stronger than habit.”

—OVID2

 

HAVING GOT THIS FAR, IT’S now time to test your system in the real world with real money—and pay your dues (Habit No. 16).

If you have applied all the steps so far, you should be in the state of conscious competence in your chosen investment niche. Successfully “paying your dues” means graduating into the state of unconscious competence where applying all your rules has become second nature.

The crucial test is how you will react under pressure and stress. It’s at these times your old habits are most likely to emerge from wherever they were hiding in your subconscious—and get in your way. Replacing habits you don’t want and mastering new ones requires constant repetition.

One way to achieve unconscious competence is to test your system in a methodical way, keeping records of everything you do—and why you did it.

Testing Your System

The first step is to decide how you are going to find investments that meet your criteria. You can find investment ideas just about anywhere. What you need to determine is what hunting ground is most fruitful for you. By establishing your investment niche you have effectively put yourself in the position where, like the Master Investor, you have to do your own research.

It’s important to realize that this is a continual process. Most investors are reactive: They wait till something comes to their attention. To succeed, be proactive like the Master Investor, and make sure you are always searching for investments that fit your criteria (Habit No. 9).

There will inevitably be times when you may feel discouraged because you cannot find anything to buy. Be like the Master Investor and just keep looking (Habit No. 10).

Even when you get an investment idea from somewhere else—be it a newsletter, a magazine, or a friend—you need to make sure it’s in your circle of competence; and personally check it against your investment criteria. This will inevitably involve you in doing some of your own digging.

You may be tempted to “test” your rationale with somebody whose judgment you respect. If this person is like your investment mentor, this can be useful. But beware.

Maurice was a budding trader who followed a technical system he had devised. He once came up with an investment idea that he thought was compelling, but he was unsure about it. So he checked it out with an experienced technical trader he looked up to as an expert—who pooh-poohed the idea. So Maurice did nothing—much to his regret when he watched from the sidelines as the investment soared exactly the way he had anticipated. Had Maurice kept his mouth shut (Habit No. 17) and followed his own judgment instead of being swayed by the guru’s opinion, he would have made a bundle of money.

If you have done your research properly, it’s unlikely that even the expert will know as much about this investment as you do. Besides, any judgment he makes will be based on his method, goals, and personality—not yours.

And you can’t always be completely certain whether the expert is giving you a considered opinion or just doesn’t want to look like a fool. Back in the days when I was a guru myself, somebody came up to me at a seminar and asked me what I thought about coffee. I didn’t know the first thing about the coffee market. But I was a guru, and how could a guru not have an opinion? So I invented something on the spot.

When you keep your own counsel, you make your own mistakes. When you depend on someone else’s advice, there’s always the temptation to blame him when something goes wrong. Worse, you may take credit for successes that weren’t your own. To pay your dues you must make your own mistakes, own up to them, take responsibility for them—and learn from them.

Before You Call Your Broker …

Once you have found an investment that meets all your criteria and is trading at a price you’re willing to pay, there are still some other steps I advise you to take before you call your broker:

1. Write down why you are buying it and why you are willing to pay the price you have in mind.

Think of an investment you made two years ago. Do you remember why you bought it? Why you were happy (at that time) to pay that price? Unless you have almost total recall, like Warren Buffett, the chances are your memory is hazy at best.

By writing everything down you can easily refresh your memory and monitor the progress of your investment. And more important, when the investment doesn’t work out, you can go back and see what, if anything, you did wrong.

2. Write down what would cause you to sell it.

The Master Investor knows why he would sell an investment before he buys it (Habit No. 12). It’s an integral part of his system.

The average investor usually focuses on what to buy. Selling is too often an afterthought. When it may be time to sell, he often can’t remember why he bought it or what he expected to happen. So the selling decision becomes an agonizing reappraisal of his original buying decision—or simply an emotional reaction.

If you don’t know when you’re going to sell, don’t buy.

Writing down your predetermined exit criteria for every investment you make will give you a discipline that most investors don’t have. Adopting this habit alone could transform your investment results.

Doing this also helps you to monitor the progress of the investment. And the right time to sell it will become glaringly obvious.

3. Write down what you expect to happen to your investment.

This should be simple. You might expect a company to continue increasing its market share. Perhaps you anticipate institutions piling into the stock and driving up the price. You could be expecting a takeover. Whatever you expect to happen if everything goes well, write it down in as much detail as possible. Then …

4. Write down all the other things that could happen.

You’ll need a lot more space to do this. I won’t even begin to list the possibilities. Suffice to say what trips up most investors is the unexpected. And in markets the unexpected is to be expected. You must train yourself to be prepared for the worst scenarios you could imagine.

5. Write down what you are going to do if any of these other things happen instead of what you expect.

You have absolutely no control over what the market is going to do. What you can control is how you react. As the trader William Eckhardt recalled:

An old trader once told me: “Don’t think about what the market’s going to do; you have absolutely no control over that. Think about what you’re going to do if it gets there.”3

For each of your scenarios, write down how you want to react if that scenario comes to pass. If the market does “get there,” you’ll already know what you want to do. Buffett calls this the “Noah rule: Predicting rain doesn’t count; building arks does.”4

This won’t guarantee, however, that you will be able to “pull the trigger” instantly. A powerful technique that will help you realize that goal is called “mental rehearsal.” Visualize each scenario. Then put yourself in that context and see yourself acting as you want to act; then play the scene again through your own eyes. Pay attention to what feelings come up, and repeat the visualization process as many times as necessary until you can see yourself coolly practicing Habit No. 11 and acting instantly.

It’s also a good idea to visualize your investment reaching or exceeding your expectations and similarly rehearse seeing yourself taking a profit.

Whenever you make a mistake, use this same technique to replay what you did in your mind—and rehearse doing what you would rather have done.

By focusing on what you can control, being prepared for what can go wrong as well as what can go right, and practicing the actions you will at some point have to take, you will be able to emulate the Master Investor’s dispassionate ability to act instantly.

6. Monitor your investments—and your own performance.

Though you clearly can’t monitor an investment until after you’ve bought it, it’s essential to have established procedures to do so before you call your broker.

The process of monitoring is an extension of your search strategy. It involves continuing to measure exactly the same criteria that led you to make the investment in the first place.

Exactly how are you going to do this? How often? What information will you need to gather—and where will you find it?

By having written records, you’ll find this process relatively straightforward. You’ll always be able to tell whether or not an investment is meeting your criteria and easily refresh your memory about what you may need to do.

And just as important, you’ll be able to judge your own performance and reactions against your intentions.

Putting Your Money Where Your Mouth Is

When you begin testing your system for the first time, while you may be confident it will work, you can’t be certain. So at this stage it’s best to commit only money you can afford to lose.

As you pay your dues, acquire the habits of the Master Investor, and prove (and if necessary refine) your system, you will eventually achieve the state of unconscious competence.

You will know when you have reached this point when you happily invest your entire net worth in your system without giving it a second thought (Habit No. 23).