Preventing mistakes has always been more important to me than getting a stock pick right. I had limited capital when I started investing, so preventing a permanent capital loss has always been of paramount importance to me. When I sat back and realized that I had the propensity of making the same mistakes repeatedly, I stumbled upon the idea of having checklists, to prevent myself from self-destruction.
My first brush with something like a checklist came from Phil Fisher’s classic Common Stocks and Uncommon Profits. In the book, the appendix covers Fisher’s thoughts on the Key Factors in Evaluating Promising Firms – which is akin to a checklist. Fisher categorizes the key factors into
i) Functional Factors like lowest-cost producer, customer orientation and focus on R&D amongst others,
ii) People Factors like growth mindset, entrepreneurial spirit and treatment of staff and
iii) Business Characteristics like margins, efficiency of operations, competitive positioning and industry leadership.
Then I came across Atul Gawande’s The Checklist Manifesto. Here the author talks mainly about using checklists for minimizing errors, which reinforced my view of using a checklist.
Then I chanced upon a very nice book written by Micheal Shearn called The Investment Checklist. This book delves systematically into how to build a checklist and comes up with a fairly good one at the end. It covers business quality, management quality and competence, financial health of the company and growth opportunities. Any investor wanting to start building their own checklist could use this book as a starting point.
I have two main types of questions in my own checklist relating mainly to
i) adherence to process steps and
ii) delving deeper into the company or industry.
Process adherence type of questions could be as simple as have I read the last 10 years annual report or conference call transcripts. Delving deeper questions could be like if I know how many times independent directors have resigned from the board in the past or the quality of independent directors on the board.
What I have personally realized, beyond what is written in books is that an investment checklist should try and capture all aspects of investing – qualitative, quantitative and, most importantly, behavioral. It should also capture my own past mistakes to ensure they are not repeated. The behavioral and past mistakes is not addressed in most investment literature but is the most crucial in my opinion.
Just for illustrative puposes, some of the behavioral or mistakes related questions that I have on my checklist are
i) Am I price anchoring to a previous price at which I had either bought or sold,
ii) Am I being unduly optimistic (optimistic bias) and not looking at disconfirming evidence? and
iii) Does the company have a large foreign currency borrowing in a overseas subsidiary?
The most important aspect to remember is that a checklist is a living document. One that needs to be updated with new or better questions and newer mistakes!
