Improving On Buffett And Desert Cat

[madnak]

David is just arguing that once you've estimated the intrinsic value of a stock independently of the market, you must subsequently re-evaluate that estimate toward the market price after seeing what the market price is. The greater the difference between your initial estimate and the market price, the more you should shift your estimate. By applying this prinicple, you can extract money from the market by selling some stocks slightly earlier than you would otherwise have sold them if you hadn't taken the market price into account (and possibly by making some adjustments on the buy end, though this is less obvious).

I think we're assuming that it's best to sell when the stock price reaches its IV.

[DesertCat]

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"Edit: And let me make it clear that I don't ignore the market price. I have to understand why something is so cheap and why I disagree with the market, just to be sure I've allowed for all known risks. If something is just mysteriously cheap, that's a red flag that I don't understand it properly. But I don't adjust my value estimates for it."

Yes you do. Your comment is an oxymoron. Unless your definition of "value" is something other than "the price where you have no edge whether you buy it or short it".

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I think we are arguing over whether I should use price as a signal to alert me that my valuation may be incomplete, or whether I should use the market price directly in my valuation. I can't just average in the market price. I can't even adjust how I weight my risks (that's done rationally with the best information at hand). But I can review the risks of the investment to see if I missed an important risk that I didn't weight at all.

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Meanwhile in spite of the hard time I have been giving you, and in spite of the fact that you are way more experienced and successful in the stock market than I am, would you be so kind as to tell this fellow Stephen that his posts are way off base.

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David, you know as well as I that no-one on 2+2 is under your or my control (though I'm flattered you asked me). Stephen is a good guy with a strong professional background that adds to this forum. He also happens to be very enthusiastic, but that's a big part of his charm

Thanks for all you've written here. I don't really agree with you, but I enjoyed thinking through your arguments, maybe someday soon I'll say hi in the Bellagio and give you an updated opinion.

[Yoshi63]

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What some arguing against David are missing, however, is the following. If Stock X is trading at $50 and you estimate its "value" to be $70. But say, your threshold for buying is such that you'd only buy X if it traded at $45. Then it's entirely disingenuous to say that you think X is worth $70, because by your own action, you'd rather have $50 than a share of X. Clearly it's not worth $70 to yourself.

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This isn't really correct at all, for at least two reasons:

1) If you had the opportunity to flip a coin, and would recieve $2million for heads, and nothing for tails - or could take $999k guarenteed - which would you take? Just because most people would take the $999k guarentee, doesn't mean the flip isn't valued at $1million.

2) Presumably it takes a while for market price to reach IV (if ever). So while there may be 'value' in the stock, it will take too long to extract it, such that you could get better value elsewhere

Finally, I'm pretty sure the main reason why we pass up the purchasing of a $50 share with $70 IV is because we are hoping to find an even better bargain. We aren't choosing a $70 IV over $50 cash, but rather waiting to find $80 IV for that $50 cash. So it's really choosing $80 IV over $70 IV.

[adios]

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All this of course is related to my Fundamental Theorem Of Investing. Don't invest unless you can explain why people are taking the other side.

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So in order to be long the stock market, I have to be able to explain why people are short the stock market? WTF

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That's a good question.

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Try reading the thread.

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I did, where is this specifically answered? David wrote an essay about this in the Internet Magizine awhile back. I pointed out some of what I perceived as the problems with his fundamental theorem.

As far was Kem repsonded to in your post, if someone buys SPY with a 20+ year hold period, how are they are being hornswoggled? That someone has the very real expectation that his rate of return will be higher than the long term rate of return on a similar duration US treasury. Why should he care in the least why someone is selling it? Here's another example, say a person has been invested in SPY or a similar index fund and that person will be able to receive an income from US treasuries that will afford that person the lifestyle he wants for the rest of his life. Why should that person care at all about who's buying SPY from him/her?

[CrushinFelt]

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First of all what I am saying is unquestionably correct in the real world. I will get to that in a minute. In the theoretical world I am saying that that if Jack is right about something 90% of the time and Jill is right even as little as 51%, then when they disagree, Jack's probability has gone down to 89.9% or whatever. If they are totally independent chances it easy to figure out the exact answer. You are saying Jack's probability doesn't change because they are not independent. He will get every question right that Jill will, plus more. If that was the case Jill's disagreement means nothing.

But that total lack of independence is obviously not the case in the stock market or sports betting. And once that is true, my contention MUST be true. It isn't even a contention. It is just an irrefutable math problem. If there are two differing opinions the true answer lies somewhere in between. On average. But closer to the guy who gets things right more often. As long as the other guy is better than random.

As to the real world, how can it not be obvious that I am right? Experts who use the Buffett-Graham-DesertCat technique make their play when their figures show they have some required big edge. When the smoke clears they are ahead, But obviously not to the extent that they thought they should be. Otherwise they all would be trillionaires. So the true price lays somewhere between their's and the market's.

Now why that should be the case is not clear. It is obviously sometimes because someone is illegally trading on inside information. But that is too rare to fully account for the syndrome.

When technical analysts say that the market will tell you where a stock is heading they are probably morons. But it is not moronic to say that the market is one of the best experts in telling you what a stock should BE. There are a few people who are even a little better than that. But if they are disagreeing with Mr. Market they should be very aware that the disagreement could signify that they have made at least a partial mistake.

BUT, their discomfort and trepidation should reduce if they can PINPOINT the reason why Mr. Market is disagreeing and refute his reason. When that happens they don't need to give themselves as large a margin of error.

I can't believe I'm going through all this again like I did thirty years ago in poker. You guys all need to just shut up, do what I say, and make more money.


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This is where it is answered.

[adios]

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First of all what I am saying is unquestionably correct in the real world. I will get to that in a minute. In the theoretical world I am saying that that if Jack is right about something 90% of the time and Jill is right even as little as 51%, then when they disagree, Jack's probability has gone down to 89.9% or whatever. If they are totally independent chances it easy to figure out the exact answer. You are saying Jack's probability doesn't change because they are not independent. He will get every question right that Jill will, plus more. If that was the case Jill's disagreement means nothing.

But that total lack of independence is obviously not the case in the stock market or sports betting. And once that is true, my contention MUST be true. It isn't even a contention. It is just an irrefutable math problem. If there are two differing opinions the true answer lies somewhere in between. On average. But closer to the guy who gets things right more often. As long as the other guy is better than random.

As to the real world, how can it not be obvious that I am right? Experts who use the Buffett-Graham-DesertCat technique make their play when their figures show they have some required big edge. When the smoke clears they are ahead, But obviously not to the extent that they thought they should be. Otherwise they all would be trillionaires. So the true price lays somewhere between their's and the market's.

Now why that should be the case is not clear. It is obviously sometimes because someone is illegally trading on inside information. But that is too rare to fully account for the syndrome.

When technical analysts say that the market will tell you where a stock is heading they are probably morons. But it is not moronic to say that the market is one of the best experts in telling you what a stock should BE. There are a few people who are even a little better than that. But if they are disagreeing with Mr. Market they should be very aware that the disagreement could signify that they have made at least a partial mistake.

BUT, their discomfort and trepidation should reduce if they can PINPOINT the reason why Mr. Market is disagreeing and refute his reason. When that happens they don't need to give themselves as large a margin of error.

I can't believe I'm going through all this again like I did thirty years ago in poker. You guys all need to just shut up, do what I say, and make more money.


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This is where it is answered.

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This doesn't answer the question the kem asked nor the questions I asked. Thanks for playing though.

[DesertCat]

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What some arguing against David are missing, however, is the following. If Stock X is trading at $50 and you estimate its "value" to be $70. But say, your threshold for buying is such that you'd only buy X if it traded at $45. Then it's entirely disingenuous to say that you think X is worth $70, because by your own action, you'd rather have $50 than a share of X. Clearly it's not worth $70 to yourself.

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No you are saying you think it offers market returns if purchased at $70. You don't buy it at $50 because you want higher returns than even $50 offers. You feel at $45 it offers such a high enough potential return and a large enough margin of safety.

The key to successful investing is having the patience to wait for situations that offer higher returns with less risk. If you lower your standards to the market's, you can't expect to do any better than it.

[CrushinFelt]

Perhaps I'll zoom in...

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If there are two differing opinions the true answer lies somewhere in between. On average. But closer to the guy who gets things right more often. As long as the other guy is better than random.


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[Phone Booth]

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What some arguing against David are missing, however, is the following. If Stock X is trading at $50 and you estimate its "value" to be $70. But say, your threshold for buying is such that you'd only buy X if it traded at $45. Then it's entirely disingenuous to say that you think X is worth $70, because by your own action, you'd rather have $50 than a share of X. Clearly it's not worth $70 to yourself.

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This isn't really correct at all, for at least two reasons:

1) If you had the opportunity to flip a coin, and would recieve $2million for heads, and nothing for tails - or could take $999k guarenteed - which would you take? Just because most people would take the $999k guarentee, doesn't mean the flip isn't valued at $1million.


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The flip is certainly NOT valued at $1mil by these people. Its EV is $1mil. There's a difference.

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2) Presumably it takes a while for market price to reach IV (if ever). So while there may be 'value' in the stock, it will take too long to extract it, such that you could get better value elsewhere

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Which means that the cash is more valuable, hence, the investment isn't worth as much as the cash.

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Finally, I'm pretty sure the main reason why we pass up the purchasing of a $50 share with $70 IV is because we are hoping to find an even better bargain. We aren't choosing a $70 IV over $50 cash, but rather waiting to find $80 IV for that $50 cash. So it's really choosing $80 IV over $70 IV.

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If $50 in cash can buy $80IV and $80IV is more valuable than $70IV, then $50 is worth more than $70IV.

It's simple economics. When you can have A or B and you choose A, you're expressing a view that A is more valuable than B.

[adios]

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Perhaps I'll zoom in...

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If there are two differing opinions the true answer lies somewhere in between. On average. But closer to the guy who gets things right more often. As long as the other guy is better than random.


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Nope doesn't anwer his question or mine.