Over the next year this column will review contemporary and classic economic, business, and investing books. I won't endeavor to find the definitive investing "Bible." There is no hallowed list or canon of investing literature. I've known many folks over the years—across a variety of disciplines—who search for "the" texts. As if an investing Holy Grail is out there waiting to be uncovered.
No such thing. The process of investing is about—at least in part—the spirit of exploration. Not just delving into today's headlines and data, but also knowing what has come before and why. Traversing the territory of thought on just about any topic is adventurous—there's a great deal of fluff, wrongheadedness, misdirection, brilliance, insight, and all in between. Plenty to agree and disagree with. Ultimately, a good investor shouldn't ever be indoctrinated, but should know the context before forging one's own path forward.
So let's start with a read that's a synthesis of my favorite kinds of books: Short, timeless, insightful, clear, and often witty—GC Selden's Psychology of the Stock Market.
Originally published in 1912, this little 125-page book appeared just a handful of years after the Panic of 1907, and some parts are clearly a reaction to it. Yet, despite its old age, this work is still around. Why? When studying market history, often the starkest and most obvious truth is how much doesn't change. Selden's opening chapter, "The Speculative Cycle," could appear in Forbes today and few would doubt it was penned expressly for the most recent bear. Of particular note is Selden's often ignored observation (to this day) that markets in the short term can become both over- and under-valued—one of the prime lessons of 2009. Overshooting can (and almost always does) happen in both directions.
"The broad movements of the market, covering periods of months or even years, are always the result of general financial conditions; but the smaller intermediate fluctuations represent changes in the state of the public mind, which may or may not coincide with alterations in basic factors."
Selden's heart is that of a trader's (he's often concerned with liquidity, another important feature of the most recent bear), but his insight rings true for longer-term investors too.
The beginning of the 20th century was a heady time: The US was on the cusp of superpower might, modernism was entering the culture, the Industrial Revolution (and thus capital markets) were thriving. Selden seems acutely aware of the prevailing intellectual movements of his time. Just to use the word "psychology" in the title is interesting—William James, Sigmund Freud, and others were just then giving birth to modern psychology. We can't know if Selden studied those folks, but we can safely say he favored pragmatism over theory—he saw occasional anomaly where classical economics modeled most everything on rationality and "invisible hand" notions.
Indeed, Selden's chapter, "Confusing the Present with the Future-Discounting," is cutting-edge thinking for its time—ostensibly an affirmation of Louis Bachelier's 1900 dissertation and generally accepted founding doctrine of the efficient market hypothesis, "The Theory of Speculation." Those debates—on the role of behavioral psychology and market efficiency still rage to this day and aren't as new as we often believe.
"The psychological aspects of speculation may be considered from two points of view, equally important. One question is, What effect do varying mental attitudes of the public have upon the course of prices? How is the character of the market influenced by psychological conditions? A second consideration is, How does the mental attitude of the individual trader affect his chances of success? To what extent, and how, can he overcome the obstacles placed in his pathway by his own hopes and fears, his timidities and his obstinacies?"
Selden was acutely self-aware, and this is where the majority of his wisdom emerges. He doesn't claim to know what's in the hearts of men—he just claims emotion is more than capable of overruling the rational. Ultimately, humans are at the core of markets—no matter the epoch or level of technological sophistication.
He preaches the notion of knowing oneself first and foremost—to gain mastery of one's emotion and perspective. In a word, it's discipline—the least sexy but possibly most important part of investing over the long term. Simply, Selden recognized his own limitations, what he could and could not know, and therefore how he could move within the market system. He's nothing if not a pragmatist (a virtue, as the true vice of psychology is often to delve into the fanciful and theoretical). Over and again he recognizes implicitly that to forecast the stock market is brutally difficult, and that even the best at it will often be wrong.
It would be easy to call Selden a contrarian, but that isn't nearly right. Not purely technical, not purely intuitive, Selden's work is an amalgam of insight over years of experience in a time long before we had the mechanics of Ben Graham or even the "animal spirits" of Keynes. He offers a rare glimpse into a view less obscured by today's hyper-defined investing categories and schools—and that makes his often still-valid wisdom all the more ingenuous today.