Are You a Hedgehog or a Fox (or a Little Bit of Both)?

Are you a hedgehog or a fox (or a little bit of both)?... 'One big thing' vs. 'many things'... All classic hedgehogs learn to ignore this... True investment foxes are rare, but they do exist... The real point of this dichotomy... Why all investors must become hedgehogs in one way... A prescription for you to follow today...

Over the past year or so, I (Dan Ferris) have discussed a timeless piece of advice every now and then...

You must learn to "know yourself well" in order to become a better investor.

Whether you believe you've already discovered a system that will work for you or are struggling to improve, the rewards you seek as an investor require greater self-knowledge.

As you can tell, I like simple insights that can help you quickly learn a lot about yourself.

I've now found another one of those insights, and that's what we'll discuss in today's Digest. When all is said and done, I'm confident that you'll get to know yourself much better...

It starts with a simple question that has profound implications...

Are you a hedgehog or a fox?

If the question rings a bell, maybe you're familiar with the 1953 essay by philosopher Sir Isaiah Berlin, "The Hedgehog and the Fox." The topic is introduced in the opening line...

There is a line among the fragments of the Greek poet Archilochus which says: "The fox knows many things, but the hedgehog knows one big thing."

It's a long essay about Russian novelist Leo Tolstoy. Berlin starts by explaining the figurative difference between hedgehogs and foxes. According to the essay, hedgehogs...

... relate everything to a single central vision, one system, less or more coherent or articulate, in terms of which they understand, think and feel – a single, universal organizing principle.

Meanwhile, foxes...

... pursue many ends, often unrelated and even contradictory, connected, if at all, only in some de facto way... without, consciously or unconsciously, seeking to fit them into, or exclude them from, any one unchanging, all-embracing, sometimes self-contradictory and incomplete, at times fanatical, unitary inner vision.

Berlin was engaging in literary criticism... But folks have been seeing hedgehogs and foxes in all walks of life ever since he wrote the essay. And the idea of determining if you're guided by "one big thing" versus "many things" is a valuable dichotomy for investors, in more than one way...

The hedgehog-or-fox theme also applies to your investment style. Do you invest in "one big thing" like the hedgehog... or in "many things" like the fox?

Before you answer that question, know this...

By far, the most important insight from this question is that most successful investors are hedgehogs...

Hedgehog investors come up with their own system – their "one big thing" – and they eliminate everything that doesn't conform to it.

For an upcoming episode of the Stansberry Investor Hour podcast, I recently interviewed a classic hedgehog investor – author Chris Mayer of Woodlock House Family Capital.

Like all hedgehogs, Chris has created his own original investment framework. It was honed over many years... And he can describe it easily. Chris calls it the "CODE" system...

• C is for "cheap." He's looking for stocks that are undervalued.

• O is for "owner-operator." He wants companies run by folks who own large chunks of their own stock.

• D is for "disclosure." He relies heavily on public disclosures as an outside, passive, minority investor... So they must be good.

• E is for "excellent financial condition." He doesn't like companies with too much debt or other risks on their balance sheets.

By sticking to the CODE system, Chris saves a lot of time... And it comes directly out of his decades of experience and knowledge as a former banker, analyst, and money manager.

Most stocks don't conform to Chris's framework, so he doesn't often find new opportunities. But importantly... he also doesn't waste his valuable time looking at the thousands of companies he would never invest in, no matter how popular or profitable they might be.

Berkshire Hathaway (BRK-B) founder Warren Buffett is a classic hedgehog, too...

Like Mayer, Buffett has a simple, four-part screen that eliminates a huge number of opportunities... And it helps him focus on only the businesses that appear most attractive.

Buffett only wants to own businesses – publicly traded or not – that have the same four characteristics. In order to get his attention, the business must be one that...

1. He can understand
2. Holds a durable competitive advantage
3. Has a management team he can trust
4. Is available at a price that's not too expensive

Like Mayer's CODE system, those four filters constitute "one big thing" for Buffett and Berkshire Hathaway.

He has built a huge, cash-gushing company by focusing like a hedgehog on finding as many businesses as possible that fit that description... He doesn't bother with those that don't.

The various traders featured in Jack Schwager's many Market Wizards books bear little resemblance to Buffett in what they buy and how long they hold it... But they're all hedgehogs, too.

Each of those "wizards" has either learned or created a system that has two primary traits... It quickly gets them out of losing positions and keeps them in winning positions as long as possible.

Many of these short-term traders operate in dozens of futures and currency markets all over the world. But importantly, they only trade when they find an opportunity that fits their own system – just like longer-term-focused investors like Mayer and Buffett.

Hedgehogs learn to ignore the opportunities that don't fit their system...

Mark Minervini was one of the traders featured in Schwager's book Stock Market Wizards.

(Related... I interviewed Minervini for the Investor Hour podcast in February 2020. And longtime Digest readers will recognize him as the creator of the "$100 Challenge.")

Minervini took 10 years to develop his own successful system. He only trades stocks. And in two posts on Twitter yesterday, Minervini expressed the hedgehog perspective well...

Those who say it's hard to sit on their hands and do nothing have no rules or they have no discipline to follow their own rules.

And...

Regardless of how much the indexes rally, I NEVER buy into a market unless there are stocks that meet my criteria.

Again, hedgehogs stick to their system no matter what. They pass on anything outside of it.

Author and investor Howard Marks is a hedgehog whose "one big thing" for decades has been finding bargains in the bond market. As he once said...

To be a disciplined investor, you have to be willing to stand by and watch other people make money that you passed on. You don't have to invest in everything. You don't have to catch every trend.

Like I said, most great investors are hedgehogs. True investment foxes are rare, but they do exist...

One of the best examples of a successful investment fox is Jim Rogers...

Rogers founded the Quantum Fund with George Soros in 1973. The two legendary investors made 3,365% from 1970 through 1980, while the S&P 500 Index rose just 47%.

According to Rogers, when he was younger, he got confused listening to other people... So he just ignored them, did his own work, and made up his own mind.

From there, Rogers became a financial maverick...

He traveled the world, learning about many different countries and their markets first-hand. Incredibly, he drove around the world twice – once on a motorcycle and once in a car.

Rogers doesn't stick to "one big thing"... He'll buy any currency, stock, bond, or other financial instrument from any country. And he'll buy any commodity, any futures contract, or anything else... anywhere, anytime... as long as he believes it's a good bet.

Many times over the years, Rogers has described his style by saying, "I just wait until there is money lying in the corner and all I have to do is go over and pick it up."

A hedgehog would be a lot more specific... A fox like Rogers is ready for anything, so he's a lot less specific about what he's looking for.

Many times, when someone appears to be a fox, he's really a hedgehog with an eclectic streak...

A good example is late Canadian value-investing legend Peter Cundill... He managed the Cundill Value Fund from 1975 through 2007, making investors more than 100 times their initial investment over that span.

The title of Christopher Risso-Gill's book about Cundill, There's Always Something To Do, suggests Cundill believed you don't need to wait for an opportunity that fits a specific system, the way all hedgehogs do. This thinking is more like a fox. As Risso-Gill wrote...

[H]e had taken the view early on that he would be prepared "to put money into anything, anywhere, provided that the downside is measurable and acceptable and the chances of a good profit appear to be better than 50%."

That sounds rather foxlike. But Cundill himself once wrote that...

I like to think that, if I stick to my formula, my shareholders and I can make a lot of money without much risk.

Cundill's formula led him all over the world... He became interested in investing in Sweden as early as the mid-1960s. And obscure, undervalued, and misunderstood foreign opportunities became a staple of his investment style after a trip to that country in 1977.

But it's hard to hear the word "formula" – which implies a system like Buffett, Mayer, or Minervini – and not conclude that you're looking at a hedgehog.

When it comes to daily life, most folks seem more foxlike to me...

In that way, a hedgehog with zero foxlike characteristics is rare, too.

To underscore that point, I encourage you to check out the book Range. Author David Epstein opens by comparing golfing legend Tiger Woods with tennis great Roger Federer...

With a lot of encouragement and coaching from his father, Woods focused on nothing but golf as soon as he could hold the golf clubs... At age 2, he used a club that came up to his shoulder to drive the ball far enough to impress comedian Bob Hope on TV.

Federer enjoyed sports from an early age, too. But unlike Woods, as Epstein wrote...

As a boy, [Federer] played squash with his father on Sundays. He dabbled in skiing, wrestling, swimming, and skateboarding. He played basketball, handball, tennis, table tennis, [and] badminton over his neighbor's fence, and soccer at school.

Federer later credited his broad interest in various sports as a child for helping him with coordination and general athleticism. It clearly paid off... He has won 20 Grand Slam men's singles titles in his career. And he has pocketed more than $130 million in prize money.

Woods is one of the most pristine hedgehogs in history... The singular pursuit of golfing mastery has ruled his existence from birth.

But what about Federer?

He started out dabbling like a fox in a wide variety of sports. But it was only when he focused like a hedgehog on tennis that he became a world-class athlete.

Maybe the answer is more complex than I first thought...

Maybe the point of the fox-or-hedgehog dichotomy is just to understand how each mode of thinking can help you achieve great success at investing (or anything else worth doing).

And maybe we're all destined to be foxes until we learn to be hedgehogs...

For example, although Buffett focused on investing from his youth, he dabbled like Federer in other areas before starting to concentrate on companies that fit his four core filters...

While running his hedge-fund partnerships in the 1950s and 1960s, Buffett bought many types of classic value plays... He bought stocks trading at discounts to book value, stocks with low price-to-earnings ratios, merger arbitrage opportunities, and myriad other so-called "special situations."

He also speculated in the silver market on at least two occasions. And in 1954, he swapped the stock of a chocolate-making company for cocoa beans... then sold the beans on the commodities exchange for a profit.

At that point, Buffett was ready for anything... He was an investment fox.

Plus, Berkshire Hathaway Vice Chairman Charlie Munger – Buffett's business partner and friend of nearly 50 years – has a foxlike intellect. And he has succeeded at investing in a big way... He's worth billions of dollars, and he excelled even before he met Buffett in 1959.

Munger is well-known as a voracious reader across a broad array of disciplines... He has said that "developing the habit of mastering the multiple models which underlie reality is the best thing you can do."

In other words, at age 97, Munger is ready for anything... And he always wants to get ready for even more by mastering as many new modes of thinking as possible.

Now, I want you to ask yourself this...

In your life so far, have you been a full-blown hedgehog, someone like Tiger Woods, who from birth eliminated everything from his life that wasn't golf?

Or have you been more of a fox, trying different jobs, investments, and other pursuits... ready for anything that felt like the right thing to read, think, or do next?

I'm willing to bet that most of us have experienced more varied lives and careers than Woods. He's the exception in human development, not the rule.

I think I'm pretty typical. Since age 18, I've shelved books in a library... worked in a music store... ran an ice cream store... ran an ice cream factory... published electronic data codes for the transportation industry... worked as a freelance publishing consultant... waited tables... played guitar and keyboards... conducted music theater orchestras... worked a bunch of odd temporary jobs too numerous to mention... and probably more beyond that.

Overall, I bet your story is more like mine than Woods'.

When it comes down to it, the hedgehog-or-fox question is about self-discovery...

It's not about making up rules that all investors must follow. Every situation is unique. You need to make your own rules or find the ones that work best for you.

However, there is one way in which all investors must become hedgehogs. It's one skill set that all investors must master – and without it, they will not achieve sustained success...

As Isaiah Berlin quickly points out in his essay, Archilochus' fragment...

... may mean no more than that the fox, for all his cunning, is defeated by the hedgehog's one defense.

A hedgehog's top priority is to avoid being eaten by a fox. Because of that, ensuring that he has an ironclad defense against foxes – his ability to roll up in a ball, offering predators nothing but sharp quills – is the one critical thing in his life.

For investors, not getting killed by a fox means avoiding catastrophic loss. All successful investors are hedgehogs when it comes to risk... It's absolutely impossible to succeed as an investor without learning to recognize, understand, and control risk.

The hedgehogs are unanimous on this point...

When I interviewed Chris Mayer during a March 2019 Investor Hour episode, he said...

I was talking to a friend of mine the other day who manages money. We were talking about what's the first question you ask yourself when you look at a stock...

And for me, it's... "Am I going to lose money?"

That's really the first thing... If it doesn't go anywhere for a year or two or three, that's OK. I just want to have the odds of permanent impairment being very low...

Permanent impairment being, of course, money that you can't get back.

Buffett is famous for saying...

Rule No. 1: Don't lose money.

Rule No. 2: See Rule No. 1.

In his must-read classic, The Most Important Thing, Howard Marks writes...

Trying to avoid losses is more important than striving for great investment successes.

Peter Cundill once wrote...

We try not to lose... The losses, of course, work against you in establishing decent compound rates of return.

The Market Wizards traders all say something like, "Cut your losses quickly and let your winners run." Even Jim Rogers, the lone fox, once said...

So my basic advice is don't lose money. Stay with what you know, and then find something that you can make a lot of money in.

Whether they're technical analysts (like most of the folks in the Market Wizards series)... or fundamental investors (like many equity-fund managers)... they all had to learn to control their risk exposure. They all prioritize not losing over making money.

Now that we've covered this from different angles, let's put it together into a prescription for investors...

First, begin with the simple question... Are you a hedgehog or a fox?

Unless you're like Tiger Woods, you'll probably feel more like a fox in life than a hedgehog. You've probably done many things rather than focus on "one big thing" since childhood. It's OK to recognize aspects of both hedgehogs and foxes in your style of living and investing.

Next, you must confront the one non-negotiable fact... All investors must be hedgehogs about risk.

To paraphrase Isaiah Berlin, it's the "single, universal organizing principle" upon which all successful investment strategies are built. Hedgehogs know "one big thing"... and risk is that thing for all investors.

After you self-reflect on the question and learn to become a risk-focused hedgehog, I recommend reading broadly on many topics...

For example, imitate Charlie Munger and learn many different mental models that underlie reality. (Blogger Shane Parrish has listed more than 100 different models on his website.)

Don't be afraid to start a bunch of books and not finish them. (That's OK... You're gaining a wealth of knowledge with every page.) Check in with multiple news sources each day.

Imitate Jim Rogers, too... Travel as much as possible. Get your boots on the ground in places where few others have been. (Have you ever been to the wilderness of remote northern Labrador? I won't forget that trip any time soon!) Do your own thinking and ignore advice that confuses you, no matter how much you might admire the person giving it.

I highly recommend studying lots of individual businesses and becoming familiar with many different assets, one at a time – even if you think you'll never invest in them.

The more different businesses you learn about, the more you'll integrate that knowledge into the "one big thing" of growing wealth by investing your capital.

In the end, most successful investors end up as hedgehogs. But almost everyone winds up living and learning like foxes until they get to that point.

So if you look in the mirror and see a fox today, keep reading and learning. One of these days, you'll wake up... walk into the bathroom... and see a hedgehog staring back at you.

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In today's mailbag, feedback on Eric Wade's "Crypto Cash Summit"... which we wrote about in yesterday's Digest. If you missed the thought-provoking event, don't fret... you can watch the full replay right here. And as always, if you have a comment or question, you can send it to us at feedback@stansberryresearch.com.

"That was a great message. Thanks for doing your diligence and presenting in an easy to understand way. I didn't get the package. I did forward it to several people.

"I'm fully invested. I did have a 120x gainer last year into this year which as you know is life changing.

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Good investing,

Dan Ferris
Eagle Point, Oregon
July 23, 2021