Mohnish Pabrai: Markets Provide Investors With Very High Error Rates

During this Q&A session with YPO Gold Nairobi in Kenya, Mohnish Pabrai discussed how markets provide investors with very high error rates. Here’s an excerpt from the session:

Pabrai: So one thing about the investing business. There was a very famous investor John Templeton, he was a global investor, used to invest all over the world. Passed away a few years ago, and he said that even the very best investor would be wrong one out of three times.

So this is a forgiving business where you can have a high error rate and still do well. So if you’re a brain surgeon you can’t screw up one out of three times, or even one out of ten times, or one out of twenty times. That would put you out of business pretty soon.

But in the investing business you can be wrong even half the time and still do well. And I know I mentioned the index with the nine percent. So the nine percent a year for the index is really coming out of about four percent of the stocks.

So basically one in 25 stocks over time delivers great results and the other 24 out of 25 don’t do great.

And that’s another reason why the active managers have a hard time because how do you get to the one out of the 25, you might get to the other one of the 24 and thinking that’s one of the 25 and you might skip it.

And the index just owns all 25 so it has that in the mix. And so I think the approach to investing if you move from the index to stock picking which is I think a significant move.

I would actually suggest for most of you to stick to indexing but if you move to active stock picking then I think what you’re looking for is you’re looking for anomalies, and you’re looking for things which make no sense like they hit you in your head with two by four.

So in my case I think if I can find a couple of stocks in a year we’re doing pretty well. Even if I sometimes can find one stock in a year that’s great. So we are looking for things that are aberrations.

You can watch the entire discussion here: