Chapter Twelve

Most people know John Maynard Keynes as an economist. Few realize that he was also a tremendous investor.

After his macro bets failed to cushion the blow in the Great Depression, he turned to stock picking. His results were phenomenal not only for his personal account, but for the Cambridge endowment fund as well as a few insurance companies.

Chapter twelve of Keynes’s seminal book, The General Theory of Employment, Interest and Money, is chock full of amazing investment wisdom, much of which we still hear today. It’s not hard to see the influence this book has had on some of the greatest investors of the twenty-first century. Below are some of my favorite quotes from chapter twelve, emphasis mine.

I love this quote.

Businessmen play a mixed game of skill and chance, the average results of which to the players are not known by those who take the hand.

Keynes was writing about behavioral finance when Daniel Kahneman was two years old.

A conventional valuation which is established as the outcome of the mass psychology of a large number of ignorant individuals is liable to change violently as the result of a sudden fluctuation of opinion due to factors which do not really make much difference to the prospective yield; since there will be no strong roots of conviction to hold it steady.

This is an amazing insight into what truly motivates professional investors.

But there is one feature in particular which deserves our attention. It might have been supposed that competition between expert professionals, possessing judgment and knowledge beyond that of the average private investor, would correct the vagaries of the ignorant individual left to himself. It happens, however, that the energies and skill of the professional investor and speculator are mainly occupied otherwise. For most of these persons are, in fact, largely concerned, not with making superior long-term forecasts of the probable yield of an investment over its whole life, but with forecasting changes in the conventional basis of valuation a short time ahead of the general public. They are concerned, not with what an investment is really worth to a man who buys it for ‘keeps’, but with what the market will value it at, under the influence of mass psychology, three months or a year hence.

Investing is a game of musical chairs.

This battle of wits to anticipate the basis of conventional valuation a few months hence, rather than the prospective yield of an investment over a long-term of years, does not even require gulls amongst the public to feed the maws of the professional;- it can be played by professionals amongst themselves. Nor is it necessary that anyone should keep his simple faith in the conventional basis of valuation having any genuine long-term validity. For it is, so to speak, a game of Snap, of Old Maid, of Musical Chairs- a pastime in which he is victor who says Snap neither too soon not too late, who passes the Old Maid to his neighbour before the game is over, who secures a chair for himself when the music stops. These games can be played with zest and enjoyment, though all the players know that it is the Old Maid which is circulating, or that when the music stops some of the players will find themselves unseated.

Howard Marks must be a fan of Keynes.

Professional investment may be likened to those newspaper competitions in which the competitors have to pick out the six prettiest faces from a hundred photographs, the prize being awarded to the competitor whose choice most nearly corresponds to the average preferences of the competitors as a whole; so that each competitor has to pick, not those faces which he himself finds prettiest, but those which he thinks likeliest to catch the fancy of the other competitor, all of whom are looking at the problem from the same point of view. It is not a case of choosing those which, to the best of one’s judgment , are really the prettiest. We have reached the third degree where we devote our intelligences to anticipating what average opinion expects the average opinion to be. And there are some, I believe, who pracitse the fourth, fifth and higher degrees.

Being a contrarian is generally not good for business.

It is the long-term investor, he who most promotes the public interest, who will in practice come in for most critics, wherever investment funds are managed by committees or boards of banks. For it is in the essence of his behaviour that he should be eccentric, unconventional and rash in the eyes of average opinion. If he is successful, the will only confirm the general belief in his rashness; and if in the short run he is unsuccessful, which is very likely, he will not receive much mercy. Worldly wisdom teaches it is better for reputation to fail conventionally than to succeed unconventionally.

This sounds a lot like Buffett’s idea of being given only twenty holes to punch.

The spectacle of modern investment markets has sometimes moved me towards the conclusion that to make the purchase of an investment permanent and indissoluble, like marriage, except by reason of death or other grave cause, might be a useful remedy for our contemporary evils. For this would force the investor to direct his mind to the long-term prospects and to those only.

Animal spirits.

Even apart from the instability due to speculation, there is the instability due to the characteristics of human nature that a large proportion of our positive activities depend on spontaneous optimism rather than on a mathematical expectation, whether moral or hedonistic or economic. Most, probably, of our decisions to do something positive, the full consequences of which will be drawn out over many days to come, can only be taken as a result of animal spirits- of a spontaneous urge to action rather than inaction, and not as the outcome of a weighted average of quantitative benefits multiplied by quantitative probabilities.

Most people are watching the dog, when they should really be watching the man walking the dog.

We should not conclude from this that everything depends on waves of irrational psychology. On the contrary, the state of long-term expectation is often steady, and, even when it is not, the other factors exert their compensating effects.


Chapter 12