Circle of Competence
The great concept of
the “Circle of Competence” has been used over the past years by Warren Buffett
& Charlie Munger as a way to focus investors only operating in areas they
knew best. He describes this con
“What an investor need is an ability to correctly evaluate selected businesses. Note that word “selected”: You don’t have to be an expert on every company or even many. You only have to be able to evaluate companies within your circle of competence. The size of that circle is not very important; knowing its boundaries is vital"
It is a simple concept to apply.
Through our experiences or study, each of us has built certain areas of
knowledge in this world. There are some areas that we are naturally good at.
Specialization in a certain industry gives you a huge advantage in the world of
investing.
Charlie
Munger describes this as "Nobody wants to go to a doctor that is half a
proctologist and a half dentist. When you specialize in a certain area you
build the capability to go treasure hunting before the crowd does. Operating in
the areas you know something about and having an advantage over others will
give you the benefits. But most investors struggle when decision-making cause
they never find their circle of competence. Simply this is a model of matches a
person's skills, abilities, and expertise. Limiting one's financial investment
decisions away from areas you have limited understanding and expertise, and
instead, focus on areas that have the greatest edge.
There are other successful people who have benefited
from this way of thinking as well.
"My advice to young men would be not only to
concentrate their whole time and attention on the one business in life which
they engage but to put every dollar of their capital into it” - Andrew Carnegie
“I’m no genius. I’m smart in spots- but I stay
around those spots” – Tom Watson Sr.
How to Expand Your Circle of Competence
Charlie
Munger says:
"If
you’re going to live a long time, you have to keep learning. What you formerly
knew is not enough. If you don’t adapt, you’re like a one-legged man in an
ass-kicking contest"
Your
circle of competence will be bigger a decade from now if you commit to cracking
edges every day or learning something new every day
The most important reason to operate within your circle of competence is that it protects you from making a major investment mistake that effects in big losses.
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