McElvaine Minutes
Arithmetic, not optimism
Recorded in 2020, in the middle of the pandemic. The argument holds up rather better than most things said that year.
What it's about
Optimism is a feeling. Arithmetic is a fact.
A lot of investing rests, quietly, on things getting better. Earnings recovering, a sector coming back into favour, a market that goes up because it usually has. None of that is unreasonable, but it is a forecast, and forecasts are the first thing to desert you in a bad week.
We try to build on something steadier. If you buy a business for considerably less than it is worth, the margin sits in the price you already paid rather than in a view about what happens next. You are not relying on the world cooperating. You are relying on arithmetic you can check.
Which matters most exactly when it is hardest to remember. In 2020 nobody could tell you how long the pandemic would last or what it would do to any particular company. But you could still count. You could still work out what a business owned, what it owed, and what you were being asked to pay for it. That is a question with an answer, even in a month when nothing else has one.
The short version
We would rather be able to do the sums than have to be hopeful. Optimism runs out at the worst possible moment. Arithmetic does not.
Keep going
Where this leads
Working out what a business is actually worth, and whether it can survive long enough for that to matter, is what the four questions are for.