The Golden Mean Perspective on Value Investing
Aristotle’s theory of the Golden Mean, which he represents in Nicomachean Ethics, provides a blueprint by which people should live their lives and eventually achieve the ultimate goal: happiness, or eudaemonia (Greek). According to Aristotle, happiness is the ultimate goal, but it is something that many people confuse with carnal or material pleasures.
The Golden Mean represents a balance between extremes; exactly where the balance is varies by situation. An example would be confidence, as it lies between the extreme of excess (arrogance) and the extreme of deficiency (timidness). Living the life of the Golden Mean is a form of art that requires good reasoning, judgement, mindfulness, and practice.
So how does all of this tie in with investing? Logically, if investing is part of life, and the Golden Mean is a way of life, then the Golden Mean should provide a “way” to investing as well.
Value investing is a strategy involving the identification of mispriced assets. All assets have an intrinsic value: how much something is worth regardless of the market price. If the market is selling the asset for less than the intrinsic value, then the asset is worth investing in despite what the market thinks. However, there are countless ways of describing “value” but that is not the topic of this article.
“The stock market is filled with individuals who know the price of everything, but the value of nothing.” — Phil Fisher
The discussion of value investing would be incomplete without mentioning the notion of Margin of Safety. In Seth Klarman’s Margin of Safety, he describes is as investing such that there is “room for imprecision, bad luck, or analytical error in order to avoid sizable losses over time.” The bigger the room, or margin, the better. As Warren Buffet put it:
When you build a bridge, you insist it can carry 30,000 pounds, but you only drive 10,000 pound trucks across it. And that same principle works in investing.
You wouldn’t want to pay $20 for a BigMac at McDonald’s, just like you wouldn’t pay $100 million for a business worth $90 million. So why pay more on your investments? Of course, there might be times that there are no assets selling below intrinsic value, but that doesn’t mean you should pay too much for something.
In essence, Margin of Safety boils down to two words: Low Risk. The reward may be low, or it may be high. Why? Because it is nearly impossible to predict the future- anything could happen to derail your investments from achieving their intrinsic value.
But why the low risk then? Doesn’t high risk imply high reward?* No. There are situations where low risk implies high reward and vice versa.** The central idea behind low risk is this: so you don’t lose money. If you don’t have any money left, you can’t win. No Money=No Risk=No Reward.
“Rule No.1: Never Lose Money.”
“Rule No.2: Never Forget Rule No.1.”- Warren Buffet
The Golden Mean framework provides a perspective on value investing. On one hand, you don’t want to pay too much for something worth less than you paid. But the other hand isn’t so obvious. You also don’t want to pay for something so worthless that it will never recover to its intrinsic value.
For example, it wouldn’t be smart to go around and purchase every penny stock you find just because they’re “cheap”. Maybe they’re trading for pennies for a reason. Identifying assets that are actually mispriced incorrectly is an art that requires hard work, good judgement, and a bit of luck.
There are countless of ways to look at investing through the Golden Mean perspective. Maybe on one hand, you don’t want to be too greedy, but on the other hand, you don’t want to be so frugal that you put your cash in a shoebox under your bed. So you decide to put it in an index fund.
Of course, just as Aristotle indicated, the balance is always changing in response to the situation. If the market is roaring and your balance happens to be putting money in Treasury Bonds, maybe you should reconsider (or maybe you just know something we don’t).
In the end, all forms of investing, like life, is a form of art. Some artists are more naturally gifted than others, but through good reasoning, judgement, mindfulness, and practice, you can undoubtedly improve.
Happy investing and good luck in your quest for eudaemonia.
Thanks for reading! If you enjoyed this article, please drop a heart below so others can learn from it as well. Also please feel free to comment below!
Disclaimer: This is not an investment guide. It is merely a framework/ideology that may or may not help your investing. But it has a higher chance of providing new ideas and a different perspective on life.
*Well, at least according to the Capital Asset Pricing Model, or CAPM. It’s also one of the shaky pillars of modern finance according to Benoit Mandelbrot, but that’s a story for a later time.
**These mythical asymmetrical bets do exist. I would recommend reading
’s The Black Swan: The Impact of the Highly Improbable
Did you enjoy this?
You might enjoy my discourses on value investing…
- Mr. Market and Stoicism (I)
- Why Value Investing Works (II)
- Intelligently Searching for Value Investing Opportunities (III)
- Crisis Investing (IV)
- A Mean-Reverting Walk Down Wall Street (V)
Or some of my other musings…
