Charlie Munger is Warren Buffett’s long-time partner at Berkshire Hathaway. Content to being the lesser known of the two, Munger is no less impressive. Bill Gates says that Charlie Munger “is truly the broadest thinker I have ever encountered,” and Buffett calls him the ideal partner who is “both smarter and wiser.”
Poor Charlie’s Almanack is a collection of Charlie Munger’s best advice given over 30 years, in the form of 11 speeches given as commencement addresses and roundtable talks. He covers a wide range of topics, including rationality and decision making, investing, and how to live a good life.
When asked to describe himself in one word, Charlie Munger chose “rational.” He knows he’s subject to the same biases affecting all other humans, and he’s trained himself to recognize when the biases are active and how to limit their damage.
If you want to make better decisions, you need to seek truth—what is really happening in the world, not what you want to believe is happening. Recognizing the truth is often painful—it may go against your prior beliefs or desires, but recognizing reality is better than deluding yourself.
Third, after considering other viewpoints, you should readily change your mind. Be willing to destroy your favorite ideas. Munger says that any year he doesn’t destroy one of his beloved ideas is a wasted year.
Social proof bias is the tendency to believe what others believe, to improve social cohesion. This causes humans to think like sheep, even if the ideas they believe are wrong. Practicing contrary thinking invites new ideas that might be more correct than what everyone else thinks.
Munger and Buffett practice this regularly in their financial management. If you adopt the same investment practices as everyone else, you can by definition only get average returns. To achieve outstanding returns, you need to think differently from the crowd.
One way to practice divergent thinking is to invert your view on a situation, to look at it from the opposite perspective. This can reveal new insights. “Many hard problems are best solved only when they are addressed backwards.”
Here are a few examples of inverting thinking:
To make good decisions, you need to know what you’re good at and what you’re bad at. Munger calls this the “circle of competence”—know where your boundary is, and don’t step outside of the circle.
Here are elaborations of this idea:
In investments, Charlie Munger and Warren Buffett know what they’re good at and what they’re bad at. They hesitate to stray outside their circle of competence. For example, they have three baskets for investing: yes, no, and too tough to understand.
Munger and Buffett both read and learn constantly, and one of the reasons is to learn from other people’s mistakes. You can learn vicariously from other people’s terrible experiences and save yourself from the same fate.
A student of human psychology, Munger compiled a list of 25 psychological biases that distort how you see the world and impair decision making. Here are a few notable ones:
The best way to guard against biases is to learn what they are and how they affect cognition, then construct a checklist to go through each one and think about whether it’s affecting your current judgment.
Charlie Munger has learned a lot about the world, and he calls the main ideas from the major fields “mental models.” He stresses the importance of multidisciplinary learning and connecting the major ideas together in a latticework, where the ideas can interact with each other.
The inferior way to learn is to learn isolated facts that exist entirely in separate silos. You can recite the facts, but you don’t know the ideas underlying them, and you can’t apply those ideas to solve problems in real life. This is a failure of rote learning, which is common in many national education systems.
Munger argues that the superior way to learn is to learn lots of mental models, then assemble them into a connected latticework (or a network).
You can think of “mental models” as important ideas in a field that have broad relevance outside the field itself.
For example, the idea of “critical mass” comes from physics. Within the field of physics, the idea of critical mass relates specifically to the mass needed to sustain a nuclear chain reaction—if you have less than the critical mass, a chain reaction won’t perpetuate itself. But this concept applies generally outside of physics—metaphorically, it can apply to the minimal mass needed to start any virtuous cycle, like the minimum number of users needed to get a social networking app off the ground.
Other examples of mental models include “margin of safety” from engineering, “compound interest” from math, and “feedback loops” from biology.
The best ideas in the world exist in each of the major fields. No single academic department has all the answers to all the problems. To become the most versatile problem solver, you need to collect mental models from every major field of study.
Modern academia tends to silo fields of study into isolated departments. Ideas stay narrowly defined, and experts within the field stay largely within their lane. Munger argues this is why a literature professor can be esteemed in her field but be considered unwise in other aspects of life.
When you have models from different fields working together, this can yield surprising results that other people don’t see.
As you collect more of these ideas, you will start relating them together. For example, you might see how stock market swings are a combination of psychological biases (loss aversion, social proof), feedback loops from biology, critical mass from physics, and random walks from math. These connected ideas form a latticework of mental models.
In Poor Charlie’s Almanack, Munger doesn’t talk directly about Berkshire Hathaway’s decisions much, but he does share the general investment philosophies and practices that have made them successful over decades.
Warren Buffett and Charlie Munger make successful investments because they’re able to wait patiently for great deals. Unlike many investors, they don’t mind staying inactive, even for years at a time, when they don’t see great opportunities. However, when they do see great opportunities, they bet big.
When Warren Buffett lectures at business schools, he’s known for saying that everyone would make better investments if they were given a punch card with twenty slots in it and were restricted to only twenty investments throughout their entire lifetime. Once they punched all twenty holes, they would be able to make zero additional investments. Under these conditions, investors would be much more discerning about which investments to pursue, and they’d bet big on the few investments they found.
Beyond just looking for cheap deals, Munger looks for high-quality businesses. In sum, these are profitable businesses that have a sustainable competitive advantage and good growth prospects.
The quality of a company may even override cheapness—”a great business at a fair price is superior to a fair business at a great price.” A company that returns 18% on capital over twenty years can get amazing results, even if you pay a price that looks expensive at first.
Munger and Buffett consider the primary factor of a great business to be an enduring competitive advantage—what they call a “moat.” Like a moat protecting a castle, the competitive advantage allows a business to resist being made obsolete by competitors or changing markets. Examples of moats include loyal branding (such as See’s Candies) or a massive distribution system that is hard to rival (such as Coca-Cola).
Berkshire Hathaway thus counsels its companies to widen their moats every year. This doesn’t necessarily mean earning more profits each year, but rather growing a company’s strategic position to weather the long term.
The father of value investing Ben Graham never accounted for management quality in his value investing principles, partially because he was writing to a mass audience who wouldn’t have the opportunity to talk to and assess management, and partially because he had an intrinsic distrust of management.
But Munger and Buffett believe management can make a big difference. For example, famed CEO Jack Welch made a big difference for General Electric, in ways that the manager of Westinghouse didn’t. Munger looks for management that is 1) unusually skilled and 2) trustworthy.
Of course, to earn great returns, it’s important not just to find great businesses, but also great businesses at great prices. Even a fantastic business can be a terrible investment if the price is too high.
Consider betting on a horse race. The best horse is often obvious, based on its track record, weight, health, and so on, and it’s clearly better than a sickly horse with a bad record. But the odds already reflect that—the best horse might have odds of 2 to 1, while the bad horse has odds of 50 to 1. Which is the better deal? It’s not immediately clear.
In all, Charlie Munger is said to be a man of solid character—hard-working, humble, and always learning. In his speeches, he talks often about the traits leading to a happy and productive life.
Munger cares a lot about reputation—the reputation of Berkshire Hathaway, of its owned companies, and of himself. He desires integrity from people he works with and managers of companies he wants to acquire. Companies that have a trusted brand name have a competitive advantage that can persist over time. Trust takes a long time to build, and an instant to vanish.
Munger and Buffett are both famous for their curiosity and their voracious reading.
Success doesn’t come without hard work.
Charlie Munger is Warren Buffett’s long-time partner at Berkshire Hathaway. Content to being the lesser known of the two, Munger is no less impressive. Bill Gates says that Charlie Munger “is truly the broadest thinker I have ever encountered.” Of their 50-year partnership, Buffett “couldn’t be more grateful” for their friendship and says Munger fits the profile of the ideal partner who is “both smarter and wiser.”
Poor Charlie’s Almanack is a collection of Charlie Munger’s best advice given over 30 years, in the form of 11 speeches given as commencement addresses and roundtable talks. These talks overlap significantly in content but can be slightly disorganized in theme, so in this summary we’ve synthesized the most important topics and overhauled the organization to discuss each topic coherently.
Munger’s original speeches are well worth reading for his amusing language. You’ll find gentle wit and amusing quips like “if you mix raisins with turds, and you’ve still got turds” (when talking about how immoral managers can sink good companies).
Poor Charlie’s Almanack quotes extensively from other people. Any quotes without attribution are from Charlie Munger.
When asked to describe himself in one word, Charlie Munger chose “rational.” He knows he’s subject to the same biases affecting all other humans, and he’s trained himself to recognize when the biases are active and how to limit their damage.
If you want to make better decisions, you need to seek truth—what is really happening in the world, not what you want to believe is happening. Recognizing the truth is often painful—it may go against your prior beliefs or desires, but recognizing reality is better than deluding yourself.
Here are major principles on staying objective.
First, recognize that it’s very easy to delude yourself.
Second, you should readily entertain other opinions. You should deliberately consider arguments of the other side. In fact, try to state the other side’s opinions better than they can themselves.
Third, after considering other viewpoints, you should readily change your mind.
Be aware that strong psychological biases are in place that prevent you from being objective. The next chapter in the guide will cover his 25 psychological biases. Here are a few notable ones that distort the truth:
(Shortform note: Another famed investor Ray Dalio is also well known for his philosophy on aggressively seeking the truth and leaving ego out of it. Read our guide to his book Principles.)
Social proof bias is the tendency to believe what others believe, to improve social cohesion. This causes humans to think like sheep, even if the ideas they believe are wrong. Practicing contrary thinking invites new ideas that might be more correct than what everyone else thinks.
Munger and Buffett practice this regularly in their financial management. If you adopt the same investment practices as everyone else, you can by definition only get average returns. To achieve outstanding returns, you need to think differently from the crowd.
“The ‘silly’ question is the first intimation of some totally new development.”—Alfred Whitehead
Munger demonstrates a few examples of contrarian thinking in his writing:
One way to practice divergent thinking is to invert your view on a situation, to look at it from the opposite perspective. This can reveal new insights. “Many hard problems are best solved only when they are addressed backwards.”
Here are a few examples of inverting thinking:
To make good decisions, you need to know what you’re good at and what you’re bad at. Munger calls this the “circle of competence”—know where your boundary is, and don’t step outside of the circle.
Here are elaborations of this idea:
To illustrate the idea of circle of competence, Munger tells a story about the physicist Max Planck and his chauffeur. Planck was driving around Germany giving lectures on physics, and his chauffeur listened to every lecture and soon memorized it. One night, the chauffeur asked Planck if he could pretend to be Planck and give the lecture in his stead. Amused, Planck agreed. That night the chauffeur gave a flawless performance of the lecture, and the crowd was none the wiser. Then a physicist stood up and asked an advanced question that the chauffeur had no chance of answering. The chauffeur responded, “I’m surprised you’re asking such a basic question, so I’m going to ask my chauffeur to respond.”
The point of the story is that there are two types of knowledge.
In each domain, you need to know whether you have Planck knowledge or chauffeur knowledge. Don’t act like you have Planck knowledge when in reality you’re the chauffeur.
Munger gives another example about bee dances. When a bee finds nectar, it returns to the hive and does a dance to tell the hive where to find it—how far to go in what direction. The dance is baked into the bee’s genetics.
A scientist decided to test the limits of this system and put nectar straight above the hive. In normal situations, nectar is never above the hive (flowers don’t grow in the sky), so the bee doesn’t have natural programming to signal this.
So what does the bee do? Ideally, it’d just sit there and do nothing. But instead, the bee dances a crazy, incoherent dance. The other bees see this dance and misinterpret where the nectar is, and so this single confused bee throws off the entire hive.
Many people are like the confused bee—they answer questions outside their circle of competence. Even when they know they’re confused, they try to bluster and pretend they know what they’re talking about. Munger actively looks for people who pretend to have confidence they know nothing about, and then he gets rid of them—they confuse the rest of the hive.
In investments, Charlie Munger and Warren Buffett know what they’re good at and what they’re bad at. They hesitate to stray outside their circle of competence.
For example, they have three baskets for investing: yes, no, and too tough to understand.
As a cautionary tale, Munger tells the story of the hedge fund Long-Term Capital Management. The firm employed plenty of brilliant, hardworking people, but they became overconfident and took on too much leverage. Within four months in 1998, it lost $4.6 billion, needed to be bailed out, and eventually dissolved.
After collecting more information and trying to be as objective as possible, you then need to make actual decisions. Here Munger stresses the discipline of making few, high-quality decisions with discipline, instead of chasing too many seemingly promising ideas.
Warren Buffett articulated this as follows—if you were given only twenty possible investments in your lifetime, you would be much more successful as an investor. You’d be forced to think through each investment very carefully, and if you saw a good opportunity, you’d bet big. In contrast, typical investors make far too many careless bets, knowing that they have unlimited opportunities to make up losses.
Li Lu, a fundamental investor and a disciple of Warren Buffett, describes a similar idea with a baseball analogy: “Ted Williams is the only baseball player who had a .400 single-season hitting record in the last seven decades. In The Science of Hitting, he explained his technique. He divided the strike zone into seventy-seven cells, each representing the size of a baseball. He would insist on swinging only at balls in his ‘best’ cells, even at the risk of striking out, because reaching for the ‘worst’ spots would seriously reduce his chances of success. As a securities investor, you can watch all sorts of business propositions in the form of security prices thrown at you all the time. For the most part, you don’t have to do a thing other than be amused. Once in a while, you will find a ‘fat pitch’ that is slow, straight, and right in the middle of your sweet spot. Then you swing hard.”
Surprisingly, the worst risk often isn’t chasing bad ideas—bad ideas are relatively obvious and they’re hard to overdo. It’s the seemingly ‘good’ ideas with some attractive kernel of truth that are dangerous, because you can easily overdo them.
Munger and Buffett both read and learn constantly, and one of the reasons is to learn from other people’s mistakes. You can learn vicariously from other people’s terrible experiences and save yourself from the same fate. Munger offers a few quotes on this:
Ideology can be an especially heavy form of bias. Because it consists of deep-seated beliefs, ideology can distort your view of reality and your cognition. In turn, ideology causes you to make worse decisions.
Young people are especially vulnerable to ideology, since it locks the brain into a biased pattern.
Here are a few examples of ideology and its effects:
If there’s one ideology to have, it’s in favor of objectivity, rationality, and discipline.
Our brains, like much of our bodies, are biologically optimized to deliver results with efficiency. The brain often employs shortcuts to make decision making easier and faster. Often these shortcuts are well-serving, like when your eyes detect the shape of a predator in the bushes before you consciously perceive it. But often these shortcuts also obscure the truth and lead to dysfunctional thinking. Even worse, people can take advantage of these shortcuts and manipulate you.
Charlie Munger mastered his understanding of these shortcuts. Through his reading in psychology and his real-world experiences, he assembled 25 psychological tendencies that tend to mislead humans.
(Shortform note: What Munger calls “tendencies” are also commonly known as “cognitive biases.” You can read more about biases in our book guides to Influence by Robert Cialdini and Thinking, Fast and Slow by Daniel Kahneman.)
One warning: simply being aware of these biases is not an adequate defense against them. For important decisions, Munger runs through a full checklist covering all of these biases, crossing each one off to make sure he’s not affected by the bias.
For each tendency, we’ll cover:
(Shortform note: In his original speech, Munger treated the biases unevenly, so we’ve filled in the gaps with examples from his other material and from general psychological research.)
Also known as: incentive-caused bias, agency cost
Self-interest drives human behavior. If someone receives rewards for doing a behavior, they will do that behavior again and again.
Research shows that once a behavior is conditioned, a random distribution of rewards keeps the behavior in place the longest—think a slot machine rather than a fixed, predictable payment like a salary.
Rewards are also known as incentives. Common incentives include money, friendship, sex, and advancement in social status.
People, institutions, and society often design incentive schemes to promote certain behavior. However, people tend to game all incentive schemes to maximize rewards for themselves, even if it violates the intent of the incentive scheme and comes at the expense of the system.
The brain has a simple algorithm: “Repeat behavior that works.” Here, what works is what gives the person rewards. Why would the brain evolve any differently?
Incentives cause bias, consciously or subconsciously. If you have an incentive to think a certain way, you will find it hard to think any other way.
Because people will maximize their rewards within any incentive scheme, poorly designed incentives cause bad behaviors.
If people start acting badly because of an incentive scheme, they won’t see themselves as bad people. Instead, they’ll rationalize the bad behavior in a way that preserves their integrity.
Bad behaviors become intensely habit-forming when they are rewarded.
Munger cites a number of cases where properly designed incentives cause the right behavior:
There are also cases where warped or missing incentives cause bad behavior:
Don’t reward behaviors you don’t want. Don’t design incentive structures that are easily manipulated.
For any incentive scheme, apply audits to check for good behavior.
When getting advice from advisors, be healthily skeptical, especially of advice that benefits the advisor.
Employers can behave poorly as well. To limit employer bad behavior:
Also known as: halo effect, association fallacy
Humans tend to like and love things and people. In particular, they have an affinity for their mothers, much like goslings attach to whatever is there at birth.
When you have an object of affection, you tend to ignore their faults and comply with their wishes. You like people, products, and actions that are associated with your object of affection.
This also works in reverse—a quality you admire in someone intensifies the feeling of liking and loving that person. This can build extreme feedback loops—you might naturally like someone, then you like their character traits, which in turn intensifies your admiration for that person and ignorance of their faults.
In return, people like being liked and loved.
As a child, being emotionally attached to your parents promotes your learning and safety.
More broadly, people who like each other tend to stick together, thus promoting social cohesion and cooperation.
If you like someone or something enough, you can ignore its real faults and problems.
In extreme cases, your affection for something can be so strong that you harm yourself to attain what you love.
Because you want to be loved yourself, you pursue paths that make other people admire you, rather than the optimal choice for yourself. This includes making popular but wrong decisions as a manager, or pursuing a respectable career path that you dislike.
To correct for liking bias when considering something else, invert—what do you dislike most about the object of your affection? What are all the ways a person is unlikable?
To correct for your own desire to be liked, explicitly recognize your desire to be liked, and control for that in your decision making.
For society in general, put good, admirable people in situations where people are prone to like or love, like teaching.
Also known as: reverse halo effect
In direct contrast to liking tendency, humans also tend to dislike and hate things and people.
It’s possible that the dislike of an “other” group promoted resource seizing or conquest of other tribes, and thus enhanced survival.
Disliking someone can cause you to ignore the full facts (like the positives of a person), which distorts your decision making.
Sometimes businesses dislike each other so much that they fixate on competition, rather than growing the pie together or existing the market entirely. This occurs because the emotional reaction to hating is so strong.
If you start off disliking someone, a vicious cycle can result—you ignore her virtues and obsess about her weaknesses, which causes you to further dislike someone and thus further ignore her virtues.
Rifts between people who dislike each other can progressively widen until there is no common ground, and agreements are harder to achieve. Inconsistency-avoidance tendency keeps this further entrenched.
Invert, always invert—what can you find to like about an object of your hatred? How can you come to accept this thing you dislike?
Respect your competitors not as incompetent idiots but instead as people who are highly competent with many virtues, whom you will respect and target with your own strengths and virtues.
Doubt is painful, causing puzzlement and stress. When you feel doubt, you reach a decision more quickly than a fully considered decision would take.
If you’re already on a path, then plodding down your current path is psychologically easier than doubting the path and potentially causing upheaval. This is further strengthened by inconsistency-avoidance tendency.
In stressful situations, like facing off against a hungry tiger, doubting your actions for too long can get you eaten.
To remove doubt, you can make poorly considered decisions.
A vicious cycle can result—if you start off on a bad track, then you can cause yourself more stress, which in turn causes you to make more poor decisions.
Before making decisions, schedule deliberate delays. Jury trials require careful deliberation before reaching a final decision. For your own decisions, “sleep on it.”
In stressful situations, give yourself the luxury of patience. Warren and Charlie are content to sit idly for a long time until they see a great deal. Having a larger resource buffer (as with more money or time) helps you avoid panicking in emergencies.
Also known as: confirmation bias, cognitive inertia, status quo bias, cognitive dissonance, sunk cost fallacy, system justification
People are reluctant to change. This applies to personal behavior, beliefs, relationships, and commitments.
Once someone believes something, it’s typically hard for them to change their mind.
Behaviors are also hard to change. Anyone with a bad habit knows how hard changing behavior is, even when they know the habit is bad.
Behaviors and beliefs have an interesting way of reinforcing each other.
The brain optimizes energy efficiency. If you keep the same behavior and don’t question it, your brain conserves space and can make faster, simpler decisions.
On a social level, maintaining consistent behavior preserves social cohesion by maintaining social roles and responses. People stay loyal to their roles as citizens, soldiers, teachers, physicians, and so on, and other people can trust in their consistency.
Inconsistency-avoidance tendency locks in a behavior or idea, even if it’s bad for you. If you start off making a bad decision caused by other biases, then you can get locked into that decision.
Because of how strong inconsistency-avoidance is, habits that form early can become a person’s destiny. For instance, pushing beliefs on children (such as political or religious beliefs) can be permanently damaging.
Because of how strong inconsistency-avoidance is, the best way to avoid getting locked into bad habits is to avoid bad behaviors to begin with. Don’t start smoking or gambling, particularly in response to doubt or a problem (like unhappiness). An ounce of prevention is a pound of cure.
If you want to change your beliefs, force yourself to act in behaviors that contradict your beliefs. You will then have to correct your beliefs.
To avoid retrenching in your position, consider counterarguments to your position before making decisions. In fact, you should actively seek out opposition to your favorite ideas.
Humans tend to be curious, even more so than monkeys and mammals.
Curiosity helps prevent bad consequences from other psychological tendencies. If you’re curious about what you’re missing, you can overcome biases like inconsistency-avoidance or liking tendency.
Curiosity likely helped early humans discover new food sources and other things that promoted survival.
Curiosity can be exploited by commercial products (Shortform note: like never-ending feeds in social media apps like Facebook or Tik Tok). These dopamine rewards in conjunction with inconsistency-avoidance tendency make the habit hard to extinguish.
Athens developed math and science out of curiosity, while the Romans focused on the practical engineering of mines, aqueducts, etc.
Also known as: the Golden rule
Humans follow behaviors that, if followed by all others, make the overall society benefit everybody.
When such courtesies are withheld, the mistreated parties get very upset.
When people reciprocate helpful behaviors with each other, everyone’s survival is benefited.
Excessive fairness can create systems that incentivize poor behavior.
If you see someone violating Kantian fairness, you can hate or dislike them without understanding the underlying motives.
Design incentive schemes that leave fairness out of play and reward productivity.
Envy is wanting something that someone else has.
Jealousy is fearing that what you have will be taken away.
Humans need food to survive, and seeing someone else have food if you don’t have any makes you want to take the food for yourself. In turn, having food makes you worry that it’ll be taken away by someone else.
In conjunction with disliking/hating tendency, envy can lead to resentment and hate.
Even if other people act out of envy or jealousy, these are seen as childish emotions to have, so it’s taboo to accuse others of it when trying to resolve disagreements. Thus the problem goes unsolved.
“It is not greed that drives the world, but envy.”—Warren Buffett
Kantian fairness tendency opposes the tendency to feel envy or jealousy.
Generally, be happy with what you have rather than calibrating to other people.
Also known as: the foot-in-door technique.
Humans reciprocate both favors and disfavors (or harm) done to them.
For example, psychological experiments show that asking someone for a huge favor (and getting rejected), then asking for a smaller favor increases the compliance rate, compared to asking for the small favor right away. This is because asking for a smaller favor looks like you’re making a concession, and the other person is willing to reciprocate.
Reciprocation for disfavors done to you is also known as retaliation.
Reciprocating good behavior allows for group cooperation. Reciprocating bad behavior serves as a mutual deterrent from either party behaving badly.
Your tendency to reciprocate favors can be exploited by manipulators. They’ll demonstrate a small favor to you, then ask for a big concession from you. For example, a car salesman might give you a free cup of coffee, which subconsciously prompts you to spend thousands of dollars more. This can be especially abused if you’re buying with someone else’s money, like an employer or the government, and thus won’t be as tight with your purse strings.
On the other side, harmful behaviors can be reciprocated to extremes, as in warfare. If one side adopts a take-no-prisoners attitude and kills every other enemy combatant, the other side will quickly adopt the same posture.
Examples of reciprocating good behavior:
Examples of reciprocating bad behavior:
To reciprocate good behavior more:
To avoid retaliating:
To avoid getting exploited for reciprocating favors:
When two items are placed close together, the qualities of one item transfer to the other.
“You won’t see Coke advertised alongside some account of the death of a child.”
Associating rewards (food) with certain items that provide rewards (a landmark boulder, a big tree, a certain tribe member) helps survival.
Likewise, associating pain (illness) with neighboring items (vomit, feces) helps avoid those items
The association between two items may be illusory.
Common associations can lead to harmful stereotypes that distort the truth.
Persian Messenger syndrome happens when you kill the messengers who bring bad news, making the association between messengers and bad news. The messengers then learn to run and hide, instead of delivering bad news. (Munger notes CBS Chairman William Paley suffered from this habit, which caused him to live in a cocoon of unreality.)
Oddly, if you’re in a bad situation and being helped by someone, you might associate your misfortune with that person and thus dislike them.
When trying to unpack why something is successful, look for confounding factors that might distort your appraisal.
Don’t kill the messenger; reward her for bringing in problems early.
Combat classification stereotypes by remembering that the average does not determine the case in front of you.
Denial is denying that an objective truth exists because it causes pain.
It’s often mixed up with love, death, and chemical dependency
Denial can possibly be helpful in these situations:
Avoiding pain probably helped people continue to survive in emotionally difficult situations.
If the truth exists and you refuse to accept it, denial can only worsen your decision making.
Denial compounds consistency tendency and sunk cost fallacy. Say you’ve lost a lot of money in a bad venture.
To make the truth less painful, try exposure therapy to the truth. The more you repeat the truth, the less painful it’ll become.
Become comfortable with accepting mistakes. Then facing the truth won’t be as painful.
Also known as: the Lake Wobegon effect, the endowment effect, the Dunning-Kruger effect, homophily
You tend to like yourself a lot. This also causes you to like everything about you too much:
Believing yourself to be competent and valuable can boost confidence, which helps spur action. In contrast, having constant self-doubt would be crippling.
Combined with doubt-avoidance tendency, your overconfidence makes you pick rash decisions that aren’t as good as you believe. Then, denial, inconsistency avoidance, and excessive self-regard tendency make you think the decision is great and not worth changing.
People who are excessively self-confident may do more harm than good.
Homophily collects people who think alike, which tends to breed groupthink.
Force yourself to be more objective when thinking about yourself, the people close to you, your property, and your decisions.
Justified pride is fine. It’s even necessary in many fields—pilots need to be confident in landing planes, and surgeons need to be confident in their handiwork.
Confronting excessive self-regard in other people: other people may think they’re not at fault, but you can’t accept excuses for poor performance.
People tend to believe things will work out.
“What a man wishes, that also will he believe.”—Demosthenes
Hope spurs action. If you’re optimistic that you’ll survive and a food source is right around the corner, you’ll continue trying to survive.. In contrast, a pessimistic depression dampens the very behaviors that would encourage survival.
Denial of bad news and overoptimistic ignorance of risk factors leads to poor decision-making.
People buy lottery tickets and overestimate their chances of winning
Habitually use probability math in your decisions. Your mental heuristics for chance are not adequate, the same way that your intuitive golf grip is nowhere as effective as the unnatural ones now used by professionals.
Also known as: loss aversion, sunk cost fallacy, near-misses
We hate having things taken away from us. Being deprived of things ignites a strong counterreaction.
We feel losses more strongly than gains. Losing $10 causes a stronger reaction than gaining $10 does. (Shortform note: read more about prospect theory in our summary of Thinking, Fast and Slow.)
If you almost get a reward and then have it jerked away, you feel as though you’ve had the reward the whole time and had it taken away, even though you never actually got it.
We overweigh losses that are near to us—someone worth $10 million will regret losing $100 from his wallet, but not a 0.5% loss in his assets that amounts to $50,000.
Having resources was critical to survival. Losing resources threatened survival, and a strong reaction prevents making the same mistake again.
We overreact to the threat of a loss.
A dog may bite the hand that feeds it but takes away food. Likewise, you might dislike someone who otherwise treats you well but occasionally takes something away from you (like an employer who takes you off a project).
Deprival superreaction synergizes strongly with inconsistency avoidance. The greater the investment in your venture (sunk cost), the greater the deprival reaction will be.
(Shortform note: Denial may be a defense against deprival superreaction. For instance, say your spouse passes away; the deprival superreaction would be extremely crushing, and denial might protect your psyche through this loss, gradually exposing you to the truth over time.)
To avoid problems with relative losses, calibrate your losses in true absolute terms, rather than relative terms. For instance, losing a $100 bill from your wallet is far less impactful than a bad habit that costs $2,000 a year or a 1% loss on a large investment.
To avoid triggering deprival reaction in people when you need to take things away from them, build an extreme culture of courtesy and respect.
Also known as: bystander effect
You think you’re in independent control of your actions, but in reality you do what you observe from other people. You think their thoughts and you mirror their actions.
This is triggered most easily in times of puzzlement and stress.
It applies to both action and inaction. If other people aren’t doing anything you tend not to do anything either.
Social proof tendency helps maintain social cohesion by encouraging a normative behavior. If everyone shares in cooperative behavior that helps overall survival (such as bathing), then the whole group benefits.
In general, when the crowd is wrong, mirroring their actions is bad for you.
In stressful situations, people tend to make rash follow-the-crowd decisions. For instance, during stock market booms and busts, people unwisely react according to how the market behaves. This synergizes with deprival reaction and doubt avoidance—people don’t want to lose their money, and they have great anxiety from doubt, so they act rashly to soothe their doubt.
Social proof can also trigger cycles of bad behavior. For instance, social proof can be coupled with envy/jealousy tendency and deprival superreaction. (Shortform example: Think of frenzied shopping behavior during Black Friday mobs, when people envy the goods that other people have and don’t want their own goods taken away.) Social proof justifies and magnifies the bad behavior.
We do simple daily actions by following the crowd and not thinking about it.
Social proof can have more significant effects:
Be an independent thinker. Use a checklist to see if the countervailing theory is correct. Learn how to ignore other people’s behavior when they are wrong.
As a society, stop bad behavior before it spreads, and glorify good behavior.
To stop the bystander effect when you need help, don’t ask a formless crowd for help. Point to someone specific and ask for something.
Also known as: Contrast effect, anchoring, boiling frog syndrome
You tend to think in terms of relative contrast, rather than absolute numbers.
You don’t easily detect small, imperceptible differences because the contrast is small. However, these accumulating differences can make a huge difference over time. This is also known as the boiling frog syndrome, after the idea that a frog placed into a heating pot of water won’t detect anything wrong and will eventually be cooked alive.
Detecting contrasts between items may be a simpler form of cognition than thinking about the absolute values of each. This helps you recognize danger faster (for instance, detecting a tiger’s pattern against grass).
You often make decisions based on relative value, not absolute value
The boiling frog syndrome lets one small slip happen at a time, which can lead to a drastic situation.
Be aware of when you’re comparing two items or situations. Think about the absolute value of the item rather than what you’re seeing in comparison.
Stress prompts faster and more extreme reactions.
Light stress can slightly improve performance, such as on tests.
When a tiger jumps at you, you don’t want to be sitting and thinking about what to do. You want to react quickly, even automatically, to resolve the situation. Normal stressful situations fall on that spectrum of stress.
Stress causes you to rely on faulty heuristics rather than methodical thinking.
Stress amplifies other biases:
Extreme, prolonged stress can lead to mental breakdowns and a persistent rewiring of the brain.
The scientist Pavlov experimented with stress in dogs. He would put a dog in a cage and flood the cage until there was barely any air left, imposing a great amount of stress. This caused a prolonged behavior change where the dogs started disliking the handlers. Repeated exposure to stress caused a persistent change in behavior.
Interestingly, he couldn’t reverse a breakdown except by reimposing stress.
There might be an association between mental strength and strength of rewiring: the dogs that were hardest to break down were also the hardest to return to their pre-breakdown state.
During a stressful period, try to maintain your calm. Think about how much time you have to react and what happens if you don’t act before then. You may have more time to think than you expected.
When you’re calm, use checklists to think through your decisions.
Also known as: Availability heuristic, what you see is all there is
Your brain works with what’s available to you and doesn’t think as hard about what’s missing. This applies broadly to facts, memories, and concepts (you don’t think about what evidence you’re missing), and emotions (you don’t think hard about whether it’s wise to feel a different emotion).
We have a limited capacity to remember, recall, and think, so we jump to what’s easily available. (Shortform note: Possibly, availability bias helps to increase weight on the most recent places you found food, and not the place that worked a year ago.)
By using only what’s recently available, you ignore other important data that would have helped you make a better decision.
Availability-misweighing amplifies other biases, mainly in misjudging the small amount of information that is available to you:
Seek information that is not readily available to you—find a new type of person to talk to, or invert your beliefs and read about perspectives you disagree with.
Use a methodical decision-making process: Put all the evidence you have available in front of you, then weigh them appropriately.
All skills attenuate with disuse.
Skills that are trained to fluency will be lost more slowly and, even if lost, will come back faster with new learning.
All neural circuits have the tendency to decay over time if unused. This is probably useful for brain efficiency, since unused circuits are pruned to make way for more useful ones.
If you don’t practice flexible thinking and exercise your mental models, you risk becoming a one-dimensional thinker. You’ll fall prey to man-with-a-hammer syndrome, where you approach every problem with the same blunt tool.
Continuously practice the skills you can’t afford to lose, much like fighter pilots in simulators.
Learn important skills to fluency so you can better recall them later.
There are substances like alcohol that are addictive and make you feel deceptively happy.
The brain has a normal, healthy adaptability to its inputs, such as habituation (a repeated stimulus requires larger doses to have the same effect). Drugs amplify the normal behavior of the brain.
Drugs are destructive for cognition, and addiction is destructive to life.
The best decision is to not even get started with addictive drugs.
(Shortform note: Programs like Alcoholics Anonymous employ a good number of the psychological effects expressed here, such as reciprocation tendency and social proof. Read more in our summary of the main text of Alcoholics Anonymous)
Old people find it harder to learn new skills.
However, some old people remain proficient by intensely practicing old skills. You can see this in a bridge or checkers tournament.
Continuous thinking and learning, done with joy, can delay the inevitable decline.
Man was born mostly to follow leaders, with only a few people doing the leading.
Hierarchies in society arise that support this tendency.
People tend to follow instructions from authority, even blindly.
A tendency to obey authority and the hierarchy may improve social cohesion, which in turn improves survival. A few orders given from the top, if followed by everyone, may be better for society.
Well-chosen authorities may be good exemplars for behavior. The crowd’s replicating the habits of the powerful or successful may improve survival.
Authority limits the individual’s decision making, which is bad when the leader is wrong, or when the leader’s ideas are misunderstood.
Authority misinfluence is amplified by:
The famous Milgram experiment showed the tendency of people to obey authorities. The setup: the subject is assigned the role of a teacher; his role is to administer shocks to a learner when the learner makes mistakes. The voltage is increased with each mistake, ending at levels that would cause serious damage or death. (In reality, no shocks were given; pre-recorded messages of pain were played at different shock levels.) If the subject demurred from giving shocks, the experimenter would step through four statements in order:
If the subject refused to go on after these four statements, the experiment would end. The majority of people didn’t get this far; they delivered a final 450-volt shock three times. (Shortform note: Read more about the Milgram experiment here.)
Outside of the laboratory, the same effect has real-world consequences:
Be careful whom you appoint to power. This figure will be hard to remove, since people listen to authority.
As usual, in a stressful situation, control your reflexive reactions, follow a checklist, and verify the leader’s judgment is sound before making a decision.
If you default to thinking, “well this (policeman, professor, manger, president) couldn’t possibly be wrong,” examine your thinking. Come from the perspective that all people universally have biases, and authority figures may at times be less reliable than your personal thinking..
Also known as: Dunning-Kruger effect
Twaddle means “foolish speech or writing.” Some people tend to pour out twaddle while others are doing serious work.
Ideally people know their area of competence and don’t stray outside it. But people with excessive self-regard may project themselves as more confident or knowledgeable than they are. When these people are in authority positions, they may get more credence than they deserve.
When other people twaddle, believing twaddle from other people can lead to bad decisions.
When you twaddle, you overstep your circle of competence. You may delude yourself into taking on something you’re not ready for.
Earlier we gave an example of bee dances: When a bee finds nectar, it returns to the hive and does a dance to tell the hive where to find it—how far to go in what direction. A scientist decided to test the limits of this system and put nectar straight above the hive. In normal situations, nectar is never above the hive (flowers don’t grow in the sky), so the bee doesn’t have natural programming to signal this.
So what does the bee do? Ideally, it’d just sit there and do nothing. But instead, the bee dances a crazy, incoherent dance. The other bees see this dance and misinterpret where the nectar is, and so this single confused bee throws off the entire hive.
Many people are like the confused bee—they answer questions outside their circle of competence. Even when they know they’re confused, they try to bluster and pretend they know what they’re talking about.
Know your circle of competence. If you’re outside of it, gather more information before making a decision.
Says Munger: “The principal job of an academic administration is to keep the people who don’t matter from interfering with the work of the people that do.” Don’t hire twaddlers who get in the way of real work.
When given correct reasons on why you should do something, you work and learn better.
People innately enjoy accurate cognition. You see this in how gratifying puzzles and games are to play.
Having a consistent logical argument is logically more persuasive in itself.
Hearing illogical reasons can be just as persuasive as logical reasons.
Reason-respective tendency amplifies other tendencies:
As a leader, think through the reasons you’re doing something before giving orders. Communicate those reasons for doing something: think through Who, What, Where, When, and Why.
As a follower or thinker, keep asking yourself, “why?” Justify the reasons you give yourself logically (and use a checklist to check your decisions).
Lollapalooza, the 25th tendency on Munger’s list, is a kind of “super-tendency”—it involves the confluence of multiple tendencies that reinforce each other and lead to extreme consequences. Other terms for Lollapalooza Tendency might include “synergy” and “emergent effects.”
As we’ll see below, an otherwise normal person can become a cult devotee through a combination of doubt-avoidance, stress influence, liking tendency, and a dozen other biases.
Unlike the 24 other cognitive biases, this isn’t a well-characterized tendency in psychology. Munger argues this is because multiple biases are hard to replicate in the lab, and psychologists simplify their research to yield replicable, isolated studies. Yet it seems like common sense that different biases could reinforce each other and be acting in the same situation simultaneously. This is yet another example of how contrarian thinking can be more correct than what an entire body of research has suggested.
Munger argues that anytime you see extreme behaviors on an individual or social level, lollapaloozas might be at work. This can include cults, the Milgram experiment (both of which we’ll explore further), the rise of Hitler, and stock market booms and busts.
Munger doesn’t suggest an antidote to lollapaloozas, but one approach might be to identify the tendencies at work, rank-order them by strength of influence, then tackle each tendency individually to weaken the mutual reinforcement of the tendencies.
In discussing lollapaloozas, Munger repeatedly mentions two examples of extreme behaviors: how cults work, and the Milgram shocking experiment. Following the spirit of his thinking, we’ll walk one by one through the checklist of 25 cognitive biases to see which ones contribute to these behaviors.
Let’s walk through how an ordinary person becomes drawn to a cult and over time becomes an unrecognizable cult devotee. Nearly all of Munger’s 25 biases contribute:
The majority of tendencies in Charlie’s list of 24 biases can apply to how cults operate and recruit new members. Because they reinforce each other, it’s little surprise that they can make dramatic behavior changes. Similar analyses might be applied to other group behaviors like multi-level marketing schemes and the general practice of religion.
The famous Milgram experiment showed the tendency of people to obey orders from authorities despite contradicting their personal values. The setup: the subject is assigned the role of a teacher; his role is to administer shocks to a learner when the learner makes mistakes. The voltage is increased with each mistake, ending at levels that would cause serious damage or death. (In reality, no shocks were given; pre-recorded messages of pain were played at different shock levels.) If the subject demurred from giving shocks, the experimenter would step through four statements in order:
If the subject refused to comply after four statements, the experiment would end. The surprising result was that the majority of subjects (65%) administered the final shock at a lethal voltage, even though they otherwise would likely describe themselves as benign people incapable of killing another person.
The standard analysis of the Milgram experiment focuses primarily on the authority influence tendency, but Munger finds this analysis incomplete. A more thorough analysis, stepping through a checklist of every major cognitive bias, would find multiple biases at work and thus explain the Milgram experiment as a lollapalooza:
While we’ve studied two lollapaloozas that result in negative behaviors (joining a cult and obeying authority to hurt others), understanding lollapaloozas can help you proactively guard against cognitive biases. Specifically, if you identify biases that are likely to be at work, you can adjust the situation to weaken those biases.
Munger cites the adoption of the United States Constitution as a master class in weakening biases. At this critical juncture in an infant country’s development, the Framers sought to enact the optimal constitution that would persist for centuries. If the situation were mishandled, toxic politics and cognitive biases could lead the Framers to adopting a weaker constitution that would compromise too much.
Therefore, the Framers created a voting setup that minimized the interference of cognitive biases:
The result was a voting situation that helped delegates arrive at the optimal solution, mostly insulated from concerns about public reputation and pressures against changing one’s mind.
Likewise, if you want to arrive at the optimal solution, follow Munger’s advice:
The best way to understand whether you’re subject to psychological biases is to step through a checklist of every bias. This avoids errors and omissions.
Think of an important, life-changing decision that you need to make. What is it?
Now, as Munger suggests, step through each psychological bias and think about whether it’s hampering your cognition. We’ll provide a reference. First, think about:
Which ones of these apply, and how?
Next, examine:
Next, examine:
Finally, examine:
Charlie Munger has learned a lot about the world, and he calls the main ideas from the major fields “mental models.” He stresses the importance of multidisciplinary learning and connecting the major ideas together in a latticework, where the ideas can interact with each other.
We’ll discuss the general concept of a latticework of mental models, share a synthesized list of mental models he mentions throughout the book, then discuss specific models to see how they apply to the real world.
The inferior way to learn is to learn isolated facts that exist entirely in separate silos. You can recite the facts, but you don’t know the ideas underlying them, and you can’t apply those ideas to solve problems in real life. This is a failure of rote learning, which is common in many national education systems.
Munger argues that the superior way to learn is to learn lots of mental models, then assemble them into a connected latticework (or a network).
You can think of “mental models” as important ideas in a field that have broad relevance outside the field itself.
For example, the idea of “critical mass” comes from physics. Within the field of physics, the idea of critical mass relates specifically to the mass needed to sustain a nuclear chain reaction—if you have less than the critical mass, a chain reaction won’t perpetuate itself. But this concept applies generally outside of physics—metaphorically, it can apply to the minimal mass needed to start any virtuous cycle, like the minimum number of users needed to get a social networking app off the ground.
We’ll cover a list of mental models below, but to give a brief illustration, other examples include “margin of safety” from engineering, “compound interest” from math, and “feedback loops” from biology. All of these originated from a narrow field but have metaphorical relevance outside the field.
Think of mental models as tools in your toolkit. The more tools you have, the more you can draw upon to solve the problem.
In contrast, if you have only one or two tools, then you’ll contort the situation to be solved by just those tools, and you’ll arrive at a suboptimal solution. This is similar to the “hammer-and-nail” problem—for people who have a specific hammer they like to use, everything in the world looks like a nail.
The best ideas in the world exist in each of the major fields. No single academic department has all the answers to all the problems. To become the most versatile problem solver, you need to collect mental models from every major field of study.
Modern academia tends to silo fields of study into isolated departments. Ideas stay narrowly defined, and experts within the field stay largely within their lane. Munger argues this is why a literature professor can be esteemed in her field but be considered unwise in other aspects of life.
The same balkanization applies to many modern corporate environments. Individual functions, like marketing and product, are divided and siloed, so that they rarely communicate with each other and squabble over territory.
When you have models from different fields working together, this can yield surprising results that other people don’t see. (Shortform note: For example, many breakthrough ideas arose from the unusual combination of ideas from two different fields. Behavioral economics came from the combination of psychology and economics. Genomics came from the combination of molecular biology and computer science.)
As you collect more of these ideas, you will start relating them together. For example, you might see how stock market swings are a combination of psychological biases (loss aversion, social proof), feedback loops from biology, critical mass from physics, and random walks from math. These connected ideas form a latticework of mental models.
We’ve talked about lollapaloozas already, when multiple forces combine in the same direction to push behavior into an extreme state. By building a latticework of mental models from many different fields, you’ll be able to diagnose the constituent parts of lollapaloozas.
Practically, unusual ideas can be combined to solve problems in interesting ways. Munger gives an example of how the economic concepts of Ricardo’s comparative advantage and Adam Smith’s pin factory intersected. In brief, comparative advantage describes how, in a free market, agents that have an advantage in producing a good will tend to produce more of it. Adam Smith’s pin factory shows the advantage of division of labor. The two are very different in nature—comparative advantage arises without any central planner, while the pin factory arises through a central planner.
One of Berkshire Hathaway’s companies had a hotel property in Los Angeles that had seen itself and its neighborhood deteriorate due to gangs and drug trade. The property was worth nearly nothing since people refused to stay there. Had they tried to brute-force a way to solve this predicament, they likely would have researched all sorts of ways to renovate the property, market itself to new customers, and improve the neighborhood.
Instead, the company put the hotel up for sale to see if the free market had a better plan for it. In came an entrepreneur, who had an unusual business model: He built hotels for senior citizens who flew in and wanted to visit tourist attractions in Los Angeles, like Disneyland. All its guests were bused from the hotel to the attractions, so they didn’t care what the surrounding neighborhood felt like. The guests were completely insulated from start to finish. This man was willing to pay more than anyone for the hotel.
Munger found this an amusing combination of the two economic models—this man had an optimized pin factory that the company didn’t have, but the company found the man through the free market.
Here’s a list of mental models suggested directly by Munger across his speeches in Poor Charlie’s Almanack. It’s not a complete set of mental models you should know, but it’s a good start to build off of.
Observe a few things about the list:
We’ve included links for many mental models as a starting point for research.
Munger’s Mental Models:
For purposes of general cognition, you don’t need to learn the nitty-gritty technical details about a mental model. You need only build an intuition for the fundamental meaning of the mental model.
For instance, for the engineering concept of “margin of safety,” you don’t need to be able to analyze a bridge and calculate the exact margin of safety to five significant figures. Instead, take away the general idea—that a system should have a degree of buffer before it fails.
How is a latticework of mental models useful to decision-making? Munger suggests a two-step process:
Your mental models help simplify a complex chaotic situation into a series of simple, perennial principles. Once you see a problem this way, it might become easier to spot the solution.
Munger gives the example of early-20th century geneticist Thomas Hunt Morgan, who banned calculators in his department. While many other geneticists at the time used calculators to study all sorts of statistics, Morgan thought this led to an unproductively insular narrow approach that focused too much on minute details. By removing calculators, scientists would free themselves to focus on the big ideas that would lead to big advancements.
Throughout his speeches, Munger comments on specific mental models and how they work.
Our brains evolved over millions of years, but mathematics and calculations came about only relatively recently, in the past thousands of years. Simply put, mathematics isn’t natural for our brains. We tend to use simple heuristics and approximations instead of rationally calculating numbers. Because it’s unnatural, you need to practice it regularly, the same way you need to practice a swimming stroke that feels unnatural at first.
In chemistry, autocatalysis occurs when a chemical reaction produces a catalyst for the same reaction. More generally, you can see this as a kind of positive feedback loop—the more the reaction runs, the faster the reaction runs.
For a business example, Munger discusses Disney’s valuable intellectual property. When a new medium arrives, like videocassettes and DVDs, Disney doesn’t need to invent anything new. It can simply reissue its movies on the new medium and make a lot of money simply. (Shortform note: Munger doesn’t quite complete the logic into how this forms a catalytic loop, but you could imagine that Disney could take the money from selling its media on the new medium to invest in creating new movies, which can then likewise be propagated into new media.)
When studying the effects of a change, people often study the immediate, direct effects—called the “first-order effects.” They ignore, however, the cascading effects that can result afterward—the effects of the effects, and the effects of those effects. These can be called “second-order” and “third-order” effects. This can lead to unintended consequences that sometimes defeat the purpose of the change to begin with.
Munger gives an example of planning the budget for creating Medicare in 1965. All the supposedly smart economists and experts looked at how much healthcare cost in the past, then extrapolated it to estimate the cost of covering all the newly enrolled patients. This estimate, however, was off by an order of magnitude. What these planners had neglected to do was think about the second-order effects—by providing generous healthcare benefits and new incentives, Medicare changed the behavior of patients and of medical practitioners. Medicine came up with all sorts of new treatments that would be covered by the richly funded programs, and patients sought them out. As a result, costs ballooned to over 1000% more than previously expected.
Munger gives another example of the consequences of trading with China back when it was still a poor developing country. From the perspective of Ricardo’s comparative advantage, this would seem like a no-brainer—a rich country like the United States would benefit from the labor and talent of a billion-plus people in China. Both countries seem to prosper. But China was arguably benefiting more from the trade than the rich countries were—it was absorbing all the technology that had given the rich countries their advantage. Soon, China would predictably surpass the rich nations it traded with. Munger foresaw this outcome and tried to talk to economists, who recoiled from the messy second- and third-order effects. The best response he got was from economist and cabinet member George Shultz, who explained that the United States had no real choice—if it didn’t trade with China, then other countries would, and given that the United States couldn’t stop the rise of China, it might as well get what it could out of the situation. Munger found this a difficult predicament.
Build your latticework of mental models by studying a broad range of disciplines.
Which fields do you think are important to understand that you currently don’t understand very well?
Within these fields, what are some important ideas you know about that you’d like to learn further?
What are the best resources you can use to learn these ideas?
In Poor Charlie’s Almanack, Munger doesn’t talk directly about Berkshire Hathaway’s decisions much, but he does share the general investment philosophies and practices that have made them successful over decades. In this chapter, we’ll discuss his perspectives as an investor; in the next, we’ll discuss perspectives on creating a successful business.
Despite its giant size, Berkshire Hathaway’s model is relatively simple:
In essence, if you can take in money at 3% and invest it in things that grow at 13%, and you can do this for 50 years, you can grow to be very large, as Berkshire Hathaway has.
Warren Buffett and Charlie Munger are famously hands-off in the management of companies they acquire. They decentralize all the decision-making to the owned companies, trusting that the company managers are in the best position to make technical decisions for their companies. In this way, they recognize their circle of competence—they’re good at spotting businesses to invest in, but they know they’re not the best to run them. (Shortform note: For a detailed look at Berkshire Hathaway’s management style and its investment model, read our guide to The Outsiders.)
Compared to other public companies, Berkshire Hathaway has the advantage of being very patient, long-term planners who don’t mind lumpy results in the short-term and don’t care about pleasing Wall Street. When the market is unfriendly, Berkshire is willing to underwrite less insurance and avoid doing deals. Then, when the market flips, Buffett and Munger can swoop in and take advantage of great deals.
However, Munger notes that Berkshire’s historical returns will be hard to match as it grows. It’s much harder to find underpriced, low-competition investments when you have $10 billion than when you have $10 million.
Warren Buffett and Charlie Munger make successful investments because they’re able to wait patiently for great deals. Unlike many investors, they don’t mind staying inactive, even for years at a time, when they don’t see great opportunities. However, when they do see great opportunities, they bet big.
When Warren Buffett lectures at business schools, he’s known for saying that everyone would make better investments if they were given a punch card with twenty slots in it and were restricted to only twenty investments throughout their entire lifetime. Once they punched all twenty holes, they would be able to make zero additional investments. Under these conditions, investors would be much more discerning about which investments to pursue, and they’d bet big on the few investments they found.
We’ll break down both aspects of patience and decisiveness.
Munger waits for business deals that aren’t just good opportunities, they’re so obviously good that they’re “no-brainers.” The rest of the time, they don’t do anything.
This makes life easier by simplifying how much you need to know. You don’t need to know how to do everything in every business and have a hundred valuable insights in your life. Instead, you just need to have two or three very important insights and bet big on them. Munger notes that Berkshire Hathaway was really built on the top ten decisions they’ve ever made.
Being patient has practical benefits too—when you make fewer transactions, you pay less in broker fees, you pay less in taxes (presumably through less frequent realization of capital gains), and you can tune out a lot more noise about irrelevant details.
When you do see a great opportunity, then bet big on it. Don’t bet tepidly, what Munger calls “buying with an eyedropper” what they should be buying in volumes. And even worse, don’t sit on your hands and do nothing. Munger states that the biggest errors in Berkshire’s history were “mistakes of omission”—they saw the opportunity, but didn’t act on it, and so lost billions in value.
This often means countering the common ethos of the time. When markets plunge, the herd mentality is often fearful, when in reality this is when things are cheapest and the deals at their best. In these situations, Munger and Buffett buy more of a stock they like as the prices keep dropping.
Buffett and Munger are disciples of value investor Benjamin Graham, who advocated for investing in businesses that were underpriced relative to their value. However, the two expand beyond Graham’s principles by considering more factors than just book value, such as the quality of a business, its growth prospects, and its management.
(Shortform note: To learn Graham’s value investing fundamentals, read our guide to The Intelligent Investor.)
Beyond just looking for cheap deals, Munger looks for high-quality businesses. In sum, these are profitable businesses that have a sustainable competitive advantage and good growth prospects. (Shortform note: We’ll discuss competitive advantage in the next chapter.)
The quality of a company may even override cheapness—”a great business at a fair price is superior to a fair business at a great price.” A company that returns 18% on capital over twenty years can get amazing results, even if you pay a price that looks expensive at first.
The benefit of a high-quality business is you don’t need to fret over when to sell it. When you buy a cheap low-quality company, you have to worry about when to exit your investment, since future opportunities may never come again. In contrast, great businesses will stay great for years or decades, and you can wait patiently to sell when it’s in your favor.
Not all profits are made equal. Some businesses earn 15% on capital, and you can take the profits out as cash. Other businesses make 15% too, but the cash needs to be reinvested to sustain the business, so there’s never cash that you can take out of the company.
Ben Graham never accounted for management quality in his value investing principles, partially because he was writing to a mass audience who wouldn’t have the opportunity to talk to and assess management, and partially because he had an intrinsic distrust of management.
But Munger and Buffett believe management can make a big difference. For example, famed CEO Jack Welch made a big difference for General Electric, in ways that the manager of Westinghouse didn’t.
Munger looks for management that is 1) unusually skilled and 2) trustworthy.
However, management shouldn’t be the dominant factor—it’s better to bet on a high-quality business than to bet on great management.
Of course, to earn great returns, it’s important not just to find great businesses, but also great businesses at great prices. Even a fantastic business can be a terrible investment if the price is too high.
Consider betting on a horse race. The best horse is often obvious, based on its track record, weight, health, and so on, and it’s clearly better than a sickly horse with a bad record. But the odds already reflect that—the best horse might have odds of 2 to 1, while the bad horse has odds of 50 to 1. Which is the better deal? It’s not immediately clear.
Likewise, a company with strong management, a great competitive moat, and a profitable business model is a sound business, but its price probably already reflects much of that. It’s not a good idea to invest in a business at any price.
However, the market is not perfectly efficient at all times. Great businesses can sometimes be found at great prices, due to the erratic nature of the market. Ben Graham conceptualized this in the idea of Mr. Market, a manic-depressive who shows up at your doorstep each day and offers you a price that can be far higher than what you think it’s worth, or far lower. You have the choice of whether to buy from Mr. Market, sell to him, or do nothing. If you’re patient, you can find the times when the market underprices a good company.
Compounding growth is a formidable force. Growing consistently at a steady-but-not-impressive rate, like 15%, can yield big results over time—such an investment will double every 5 years, and thus grow by 16 times over 20 years.
Taxes make a big difference in compounding growth as well. Compare a passive and active investment approach with the same annual rates of return.
With growth that’s not taxed, you have a difference of 2.6x in the same investment period, despite having the same nominal pre-tax growth per year.
However, there are natural limits to compounding. Because of finite resources, a company or investment cannot grow at the same compounded rate indefinitely (if it did, it would eventually consume all the money and resources in the universe).
The idea of compounding applies to general life as well. Say Munger: “You don’t have to be brilliant, only a little bit wiser than the other guys, on average, for a long, long time.”
Given how competitive and profit-seeking financial investment is, it’s prone to developing false wisdom and red herrings. Munger cautions investors against a number of common pitfalls.
When investors think about buying and combining businesses, they often point to financial synergies that can result—often through cutting shared overhead costs or expected growth through combining business forces.
Munger is aware that these synergies exist, but finds that many people embellish the synergies that will actually materialize.
Munger and Buffett like simple investment philosophies—buy good businesses with sustainable competitive advantages at low prices. They find mathematically and theory-heavy investment models, like modern portfolio theory and beta, incomprehensible. For example, Munger finds the idea that a stock’s volatility is a measure of risk nonsense.
Munger thinks the same about derivatives, which can have incredibly complex structures and become nearly impossible to do reliable accounting on. Derivatives books are often constructed out of thin air, fanciful thinking, and false profits. He pointed out how derivatives obfuscated the terrible situation at Enron, and in 2003, well before the 2008 financial crisis, he predicted that “there are big troubles to come.”
Investors always wish for people who can predict the future, and they seek out prophets. But this is foolhardy—people are no better at predicting the future of financial markets than they are at reading tea leaves.
Munger and Buffett both believe issuing stock options must be accounted for as part of expenses. Avoiding this reduces expenses and inflates company earnings, which is why executives like doing it. In the short term, this can raise stock prices, but eventually the finances don’t add up, and confidence in the company plummets along with the stock price. (Shortform note: read this HBR article for a more thorough discussion of why managers falsely believe options shouldn’t be expensed, and why those reasons are foolish.)
Despite their personal prowesses in investing, Buffett and Munger are staunch supporters of passive investing for the vast majority of the population, even for large endowment funds deciding what to do with their money. Specifically, passive investing means investing in the market overall through index funds, rather than choosing stocks personally or hiring money managers who do more than passive investing.
Consider the simple statistics of the matter. Of the entire investing population, strictly half of people will do better than average, and half of people will do worse. And the average result may actually be quite poor. If you were to aim for better results, note that only 10% of people can be in the top ten percentile.
This contravenes the presumptuous optimism of the retail investor or active professional investor, both of whom tend to think they are well above average. In reality, long-term studies have shown that most active investors earn less than the overall market.
Munger has special ire for active investment managers who take a percentage of the invested capital in fees. Even in the unlikely case that active investors beat the market, after deducting fees and transaction expenses, they underperform the market.
This might be counter-intuitive to the smart and confident. Surely a well-heeled foundation, with very strict hiring practices, pedigreed investors, and rigorous investment discussions, should do better than average? But these very practices might hurt, because they contribute to overconfidence.
Munger acknowledges that the market is not perfectly efficient, and that a small number of motivated, intelligent, disciplined investors will be able to find the rare opportunity among millions of false leads. But the percentage of people who can do this consistently over time is vanishingly small.
Stock markets, of course, go through booms and busts. During booms, stocks become irrationally overpriced far out of pace with the underlying company fundamentals.
To explain this, Munger describes the economic/psychological concept of the “wealth effect”—when stock prices go up, people act as though they have more money and spend more money. In turn, when spending increases, stock prices increase. This can lead to lollapalooza effects that cause huge rises in stock prices.
Even more specific contributions are:
A 100-point increase in the S&P adds about a trillion dollars in market value, so it’s not hard to see how that can lead to further increases in stock prices through the wealth effect.
Incorporating all the principles we’ve learned so far, Munger follows a 10-step checklist for making investment decisions.
1. Think Independently
2. Stay Humble
3. Prepare and Work Hard
4. Analyze Rigorously
5. Measure Risk
6. Allocate Assets Wisely
7. Be Patient
8. Be Decisive
9. Adapt and Change
10. Stay Focused
Even though Charlie Munger and Warren Buffett don’t operate businesses themselves (they are famously hands-off and leave management to their business leaders), they do base their investment decisions on the strength of a company. They therefore have strong opinions on what makes companies successful over the long term.
According to Munger, outlier business success often results from the combination of some of these factors:
Munger and Buffett consider the primary factor of a great business to be an enduring competitive advantage—what they call a “moat.” Like a moat protecting a castle, the competitive advantage allows a business to resist being made obsolete by competitors or changing markets.
To highlight the frenzy of competition, Munger points out that of the 50 most actively traded stocks in 1911, only one company—General Electric—survived as an independent, meaningful company. The forces of new technology, fierce new competitors, and shifting management are formidable and can drive companies out of business.
Berkshire Hathaway thus counsels its companies to widen their moats every year. This doesn’t necessarily mean earning more profits each year, but rather growing a company’s strategic position to weather the long term.
Under certain conditions, businesses with large moats can increase prices dramatically without cutting volume, and thus increase earnings dramatically. This happened with Disney in the 20th century. For decades Disneyland priced its tickets very affordably. Then the managers realized it was underpriced—it was a unique experience unlike any on Earth; people don’t consume it that frequently, so they’re not as worried about racking up high costs. So Disneyland raised its prices, and attendance maintained steady levels, leading to sudden profits.
(Shortform note: The ideas of competitive advantage were formalized by Harvard Business School professor Michael Porter. For more details, read our guide to Understanding Michael Porter.)
Munger speaks further about competition in two respects—competition between rivals, and how new technology changes competition.
An interesting phenomenon in business is that some industries see a healthy level of profits amid reasonably friendly competitors, while others see fierce pricing battles and evaporated profits.
An example of the latter is the airline industry, which has been perennially unprofitable. Because airline seats are mostly seen as a commodity by customers, competition operates on the basis of pricing, which drives competition progressively toward lower and lower pricing, which in turn erases profits.
In contrast, Munger points to the cereal industry as surprisingly healthy. Despite the presence of major players like Kellogg’s and General Mills, as well as generic supermarket brands, it appears that companies can still healthily exist and earn profits. Munger explains this in a few ways:
Munger notes that while insurance may seem like a commodity business, it’s not completely—people buying insurance have to evaluate the longevity of the insurer and the likelihood that it’ll pay out when it’s expected to.
Technology evolves so quickly that a new technology can make an entire industry obsolete within years. In the early 20th century, there were entire industries built around horses—saddlemakers, ferriers, and so on—that were wiped out when the automobile came along. Businesses are often unable to control the development of such technologies, and so they need to adapt to the new technology or risk being destroyed.
At times, technology won’t be a risk to a company but rather improve its operations. However, this type of facilitating technology doesn’t automatically mean it improves the company’s profits. New technology that becomes accessible to everyone is quickly adopted and becomes table stakes; no company has a meaningful edge over the other, and all the value gets passed down to the customers. In contrast, if you own a proprietary technology that no one else has, you can develop a meaningful moat.
When you see a new technology, evaluate whether it’s going to help you or kill you.
Berkshire Hathaway is famously allergic to investing in hot new technologies like software or pharmaceuticals, instead preferring to invest in businesses they understand deeply. Said Buffett about the Internet: “Change, as in the case of the Internet, can be the friend of society. But it is the absence of change that is often the friend of the investor. While the Internet will change many things, it will not likely change the brand of gum people chew. Charlie and I like stable businesses like chewing gum and try to leave life’s more unpredictable things to someone else.”
The incentives in business operations make a big difference in how people behave. People are prone to getting whatever they can out of a situation. With poorly-designed incentives, people will behave in ways that run counter to your intentions.
People get used to sloppy conditions quickly, so it’s important to stop them quickly when you recognize the problem. Munger cites a friend with a manufacturing business that suffered from extensive fraud in workers’ compensation, which raised the cost of premiums to unsustainable levels. He asked the unions to ask the staff to stop, but they resisted—by then, everyone was doing it and benefiting from it, and it was seen as free money. The friend closed down the plant and moved to Utah, where the Mormon population seemed to be much more honest, and the workers’ compensation costs dropped precipitously.
At times, the right incentive scheme can seem unfair. Munger shares a rule in the Navy—if you’re in charge of a ship and you run it aground, your naval career is basically over. It doesn’t matter what the reason was. This isn’t fair because it punishes officers whose ships run aground through no fault of their own, but the benefits outweigh these costs—officers are more careful than they otherwise would be if the rule weren’t this way. Munger feels the same way about compensation for stress in workers’ comp—while there are legitimate stress injuries, the current system invites so much abuse that society would be better off if compensation for stress were removed.
Businesses often seek to grow larger because there are advantages to scale. These include:
Munger points to chain stores as an example of a dominating business model. Larger stores get large purchasing power, which lowers merchandise costs. A larger headquarters means smart staff members who can specialize in buying in certain niches and thus make smarter decisions. And more stores means more experiments that can be run simultaneously to learn more about the market.
Contrast this with a single store operated by a single proprietor, which is in the inverse situation. This person lacks buying power, so merchandise costs a lot; she has to make lots of purchasing decisions across many categories, which likely means worse decisions. It’s difficult for this store operator to compete.
A fan of growth, Munger is skeptical of antitrust, noting that every business tries to take their success to achieve even greater success. “It’s hard for me to see why Microsoft is sinful to do this. If it’s a sin, then I hope all of Berkshire Hathaway’s subsidiaries are sinners.”
However, scale can also come with its own disadvantages:
The value of trademarks and branding to society is that it gives a strong incentive to preserve the reputation of the brand. Trust in a brand can be lost instantaneously after a scandal or a massive product recall. Therefore, brand owners are likely to invest in product quality, which then means consumers can trust that when they buy a brand name, they’re likely to get quality.
Munger tells an example of how the Carnation food company was attempting to buy the trademark of unrelated company Carnation Fish. The owner of the trademark refused to sell, and ultimately the larger Carnation company capitulated and gave a surprising offer—they would donate time from their food inspectors to make sure Carnation Fish had spotless operations. The value of protecting the Carnation name was so important that the company was willing to invest in similarly named companies it didn’t even own.
(Shortform note: Read more about the value of brand names in our guide to Basic Economics by Thomas Sowell.)
In one speech, Munger poses an interesting challenge—how would you grow a trillion dollar company from scratch?
This isn’t a hypothetical question. He adds more specifics: It is 1884, and you are given 2 million dollars. How do you grow it to be a 2 trillion dollar company? Your company name must be Coca-Cola, and you must create a non-alcoholic beverage business.
He uses this as an example of explaining a company’s success from first principles, which can in turn improve your management and decision making. Here’s Munger’s approach.
Use math to size the problem:
Consider major factors that affect the business over time from 1884 to the 21st century:
To have such a large business, commanding a quarter of all beverage consumption, a lollapalooza of multiple supporting factors is required. These include:
Start with no brainer decisions and facts:
Set up logistics and distribution to get your product to customers:
Invert, always invert. What don’t you want on the path to building a massive company?
There are many more aspects of Coca-Cola’s success, but this should suffice for a demonstration. The point to this exercise is that most people, even having observed Coca-Cola for most of their lives, cannot explain the success of Coca-Cola. Furthermore, recent executives could not understand the fundamentals well enough to predict the failure of “New Coke.”
To illustrate the utility of this thinking, Munger points to another failure of General Motors. Based on consumer surveys and its well-refined design processes, it decided to eliminate the fourth door in a truck that would seat five people. This ignored basic tenets of what people liked in cars—ease of use and traditional formats.
In general, in times of duress and need to change, don’t suddenly forget the fundamentals of the situation. Your new strategy may destroy what got you to your successful position in the first place.
To illustrate his principles, Munger likes giving riddles. Here are a few—after each question, we’ll put answers in a new line so you can muse on it yourself.
At the time of his speech, Berkshire Hathaway had recently opened a furniture and appliance store in Kansas City. At the time, the largest such store in the world was selling $350 million worth of goods annually. This new Kansas City store opened and immediately started selling over $500 million per year. Its parking lots were full from day one.
What caused this store’s immense success?
To begin, would this be a low-priced budget store or a high-priced premium store?
A premium store would not be able to sell this much volume on day one in a non-major city. It has to be a low-cost budget store.
Next, is it likely to be a small store or a big store?
Surely to sell $500 million of goods, it needs to be a big store.
And what advantages does a big store size have?
It has unrivaled selection.
Thus, the answer is clear—the store must be a low-priced store with a massive physical footprint and unprecedented selection.
Why hasn’t this been done before? The answer suggests itself—because it’s such a big store, it requires a big initial investment, and until Berkshire Hathaway came along no one was willing to try it.
Typically, increasing prices reduces sales volume. But how can you increase volume by increasing prices?
1. Luxury goods: Raising the price can improve the product’s ability as a ‘show-off’ item. In other words, if the utility of the good is to show one’s status, then raising the price increases the utility of the good. Further, people will frequently assume that the high price equates to a better product, and this can sometimes lead to increased sales.
2. Non-luxury goods can take advantage of this too. As above, a higher price connotes higher value, an assumption the buyer accepts. This can especially apply to industrial goods where high reliability is an important factor.
3. Once you raise the price, you can use the extra revenue in legal ways to improve the company, like making the product work better or improving the sales system.
4. Alternatively, you can raise the price and use the extra revenue in illegal or unethical ways, like bribing purchasing agents. (Munger notes that he likes this answer the most but never gets it).
In all, Charlie Munger is said to be a man of solid character—hard-working, humble, and always learning. In his speeches, he talks often about the traits leading to a happy and productive life. We’ve synthesized the main themes here.
The book has a brief biography of Charlie Munger. Here are bullet points:
Since one of Munger’s favorite strategies is to invert, think first about how to live miserably, then avoid doing that.
Munger cares a lot about reputation—the reputation of Berkshire Hathaway, of its owned companies, and of himself. He desires integrity from people he works with and managers of companies he wants to acquire. Companies that have a trusted brand name have a competitive advantage that can persist over time. Trust takes a long time to build, and an instant to vanish.
Munger’s children contributed quotes in the book. They comment on his nature—hard-working, perpetually reading, and absent-minded. But they speak well of his lessons on character, good decision making, and discipline. All seem grateful for the parenting.
His son, Charles Munger Jr. shared a teaching strategy that Munger used. He told a parable, where someone faced an ethical problem. He gave two endings, a good version where someone chose the right path, and a downward spiral tale, where someone chose the wrong path and suffered an endless series of catastrophes. One tale involved a manager who had made an accounting mistake that resulted in big losses. In the correct version of the story, he went to his boss and told him about the mistake. His boss understood, thanking him for admitting to the mistake and forgiving him, also noting that had he tried to hide the mistake, he would have been fired immediately.
Old age comes with declining physical health, but it comes with increased wisdom and comfort of a life well lived.
Success doesn’t come without hard work.
It’s also important to do meaningful work. An admirable person works on outcomes that she will not survive to see.
Munger and Buffett are both famous for their curiosity and their voracious reading.
By reading, Munger learns new ways to see the world and gains new tools to solve problems with. This can mean discarding his previous favorite ideas.
Munger is a particular fan of biographies. He likes tying a field’s big ideas to the real people who developed them. You can learn economics better if you think of Adam Smith as your friend.
Simply spending a lot of time learning won’t produce the best results. Ideally, you optimize how you learn.
Munger believes that the best lessons are learned through figuring things out yourself, not from being spoonfed information.
Earlier we discussed Munger’s insistence on multidisciplinary learning. He argues that the way fighter pilots are trained is an exemplar for multidisciplinary learning overall. It includes six components:
Interdisciplinary learning enables problem-solving that crosses disciplines and allows for unconventional solutions. For example, suppose two old ladies inherit a shoe factory that makes branded shoes and have all sorts of business problems in quality control, supply chain, and management. How do you advise they solve their problem?
(Shortform note: In a similar problem, in a Stanford MBA class, students were given $10 and told to maximize profits from it, then present for 10 minutes on what they did. Many students thought literally about the problem, using the $10 to buy cheap goods like water bottles and to resell them. Some clever students realized that the real value of their project was their time, which they sold by standing in line at restaurants and such. The winning team sold the 10 minute slot to a company who wanted to hire MBAs.
These problems might be solved by inverting the problem. For the two old ladies, how would you maximize the value to them at the end of the day? For the MBA problem, what are all the assets that you have available, and what can you do with them? What if you had $0 instead of $10?)
Munger’s children and friends noted his ability to focus on the problem at hand. When he concentrates on a problem, he won’t even acknowledge someone who comes into his room.
Focus helps in business management too. General Electric CEO Jack Welch inherited a business that played in far too many fields, an approach he rejected: “To hell with it. We’re either going to be #1 or #2 in every field we’re in or we’re going to be out. I don’t care how many people I have to fire and what I have to sell. We’re going to be #1 or #2 or out.” (Shortform note: Steve Jobs would do the same to Apple when he returned, killing the many forms of unsuccessful devices to focus on only a handful, including the original iMac.)
Warren Buffett and Charlie Munger’s partnership is one of the most famous in the business world. They both have nice things to say about each other.
Buffett considers Munger an invaluable ally who tests his own thinking: “Look for someone both smarter and wiser than you are. Ask him not to flaunt his superiority so that you may enjoy acclaim for many accomplishments that sprang from his thoughts and advice. Seek a partner who will never second-guess you nor sulk when you make expensive mistakes. Look also for a generous soul who will put up his own money and work for peanuts. Finally, join with someone who will constantly add to the fun as you travel a long road together.”
Munger joined Berkshire Hathaway as a second-in-command rather than an equal partner. Given that he had run his own investment firm before joining, others were surprised, but he didn’t mind it. “There are some people that it is okay to be a subordinate partner to...there are always people who will be better at something than you. You have to learn to be a follower before you become a leader.”
A funny story: Buffett would often call Munger to discuss a deal, and Munger would often respond in shock, pointing out any number of risks. After discussing them through, Buffett would usually admit that Munger was right and turn down the deal. But once in a while, Buffett would say that he was going to go forward with the deal anyway. And at some points, Munger would show how he really felt when he responded, “Warren, if you do it, could I have a percentage of it?”
To conclude the book guide, we’ll cover a variety of topics mentioned through Poor Charlie’s Almanack that didn’t fit cleanly into the previous chapters.
If you want people to do something, often asking them to do it won’t get the best results. You may have to take a more oblique path, especially leveraging the psychological biases we covered. We’ll cover two examples.
First, Munger gives the example of Captain Cook, who knew his sailors suffered from scurvy. He learned that Dutch ships had less scurvy, and also noticed that they ate lots of sauerkraut (which, possibly unknown to him, contained vitamin C). But tough, ornery English sailors were unlikely to eat sauerkraut, given the rivalry with the Germans and Dutch. Cook also knew he couldn’t tell them to eat sauerkraut to prevent scurvy, since this would tip them into thinking the voyage would be so long they had to mutiny instead. So he relied on social proof and exclusivity—he gave sauerkraut to the officers’ table only, but not to the main crew. The crew looked on enviously, until Cook relented, allowing the crew to eat sauerkraut one day a week. Soon he had the entire crew eating sauerkraut happily.
Second, suppose you’re advising clients who are prone to breaking laws and committing fraud. You have two typical options: 1) decide to quit and not work for him any further, 2) decide that you’re not morally culpable given that he’s doing the cheating, and acquiesce to work for the sake of your mortgage. Instead, Munger argues for a more convincing third option—appeal to his self-interest. Tell him that he can’t commit his widespread fraud without other people knowing about it, and so he’s making himself vulnerable to blackmail and scandal, which will ruin his company, his money, and his family. Appealing to self-interest can often work far better than rationalization.
(Shortform note: For more on appealing to a person’s self-interest, check out the advice in the classic How to Win Friends & Influence People.)
Psychological tricks like this can be powerful, but there is a line at which it can become immoral. And if you do this too transparently, using tools that the other person is aware of, he won’t trust you again.
Munger believes that the most fundamental disciplines—say, math and physics—are much more rigorous than the soft sciences like economics and psychology. The soft sciences tend to be unorganized in their thinking and relish in complexity instead of elegant fundamentals.
Munger argues that soft sciences should integrate the ethos of hard sciences:
For all its achievements, the field of economics has several key problems that limit their ability to explain the world.
(Shortform note: The field of behavioral economics was a major effort to mix human psychology into economics and explain why people don’t act rationally in many situations. Read more about behavioral economics in our guide to Thinking, Fast and Slow.)
Psychologists have described a lot of useful ideas in biases and behavior, but the ideas tend to be isolated in siloes rather than unified in elegant models. As Munger says, psychology is in a state “like electromagnetism after Faraday, but before Maxwell —a lot has been discovered, but no one mind has put it all together in proper form.”
Part of the problem is that psychology, in an effort to become a rigorous, respected discipline, engages in narrow, specific experiments that test a single idea so that the experiments are repeatable. This, however, ignores the complexity of real situations that involve multiple factors, like in Munger’s lollapaloozas.
Another problem is that Munger, to put it bluntly, believes that psychologists simply aren’t the smartest academics. The really talented people pursue hard fields like physics and math. After all, why would a very talented person with her choice of fields pick psychology, a field where the effects awkwardly grow weaker as people learn more about them (as in the case of biases)? Furthermore, what of the troubling idea that people are often happier when believing things that aren’t true?
Throughout his speeches, Munger shows his wry sense of humor, which allows him to state otherwise controversial opinions in palatable ways. Here’s a sample of quotes (read the full speeches for more):