circle of competence things I would never invest in Grigory Lukin

Things I’ll Never Invest In (and Neither Should You!)

What would you never invest in?

The key to achieving financial independence is “earn more, spend less, invest the rest.” Each component of this trifecta is important in its own way, and there are lots of nuances and subtleties.

You can still increase your net worth if you fail at one of the three: for example, you can be frugal and good at investing, even if your salary is on the low side. (That was my trajectory.) You can get ahead by earning more and being a good investor even if you’re bad at controlling your spending. (Think middle-class hoarders.) Finally, you can probably make progress if you earn good money, control your spending, but make bad investing decisions. Depending on the severity of those bad decisions, there may still be a path forward, and that’s what I’d like to discuss in this post.

One bad investing decision can undo several good ones. It’s just as important to identify and weed out your negative investing impulses as it is to cultivate the good ones. If you end up avoiding a terrible decision, that will never show up on your balance sheet, but you’d still know that you saved a great deal of money by making the right choice. Do that often enough, and you’ll get ahead of other investors solely by making fewer mistakes. (And as I wrote in my e-book Buffett’s Biggest Blunders, everyone makes mistakes, even the best of us.)

It’s important to identify your circle of competence, and to stick with it. That means ignoring the oh-so-helpful stock tips from strangers, or jumping on random crypto coins and NFTs, or any number of things that seem almost too good to be true. (Spoiler alert: they usually are too good to be true.)

Here is what Warren Buffett said on this topic during his 1998 lecture at the University of Florida Business School:

“You have to have sort of the background of understanding and knowing what you do or don’t understand. That is the key. It is defining your circle of competence.

Everybody has got a different circle of competence. The important thing is not how big the circle is, the important thing is the size of the circle; the important thing is staying inside the circle. And if that circle only has 30 companies in it out of 1000s on the big board, as long as you know which 30 they are, you will be OK. And you should know those businesses well enough so you don’t need to read lots of work. Now I did a lot of work in the earlier years just getting familiar with businesses and the way I would do that is use what Phil Fisher would call, the “Scuttlebutt Approach.”

I would go out and talk to customers, suppliers, and maybe ex-employees in some cases. Everybody. Everytime I was interested in an industry, say it was coal, I would go around and see every coal company. I would ask every CEO, “If you could only buy stock in one coal company that was not your own, which one would it be and why? You piece those things together, you learn about the business after awhile.”

What’s in your circle of competence? Mine includes retail, travel, and entertainment: for the most part, those were the stocks I’d used to build my own pandemic portfolio back in 2020. That was how I made 193.7% within a year. That was how I managed to acquire enough money to retire. Your results might not be as drastic as mine, but who knows – maybe you’ll do even better!

circle of competence things I would never invest in Grigory Lukin
What is your circle of competence? (Image by Gerd Altmann from Pixabay)

And so, given all of the above, what would I never invest in? That answer is different for everyone. For me, it’s the following: crypto, companies based in tax shelters, companies based in China, pharmaceutical companies, and high-tech companies.

And as for why…

1. Crypto. I will admit that I never considered Bitcoin seriously when it first appeared in 2009: as a full-on Grahamite value investor, I spent entirely too much fun laughing at the idea that storing information in a permanent ledger was somehow profitable. In my opinion, that didn’t represent any tangible value. I made the same oversight (too much mocking without ever considering it seriously) with Tesla’s stock, another bizarre success story from the 2010s. This is a large and complicated topic, but suffice to say, I don’t feel comfortable with crypto’s high volatility, lack of accountability, and its negative impact on the environment. (Unless, that is, you utilize 100% renewable energy. That would be neat.) Bitcoin, Dogecoin, etc may very well go up 1,000% over the next five years, but they will do so without me.

2. Companies based in tax shelters. I am positive there are some fine companies that crank out actual products and have stellar balance sheets while being based out of, say, Bermuda. Good for them. Unfortunately, they’re vastly outnumbered by other, much more shady corporations that have their HQ in a janitor’s closet of a non-descript office building that houses hundreds of corporations on paper. There are actual gigs where you can make a living wage just by sitting in an empty office on a tropical island, occasionally answering a very rare phone call, and telling any wayward wanderers that the management is just out for lunch and will return aaaany time now. I won’t lie – that sounds like a fun opportunity, so if any offshore corporations would like to recruit a token tall white dude that looks great in a suit, please do let me know! I would never invest in such a company (and neither should you), but that sounds like a perfect job, eh?

Bahamas shell company things I would never invest in Grigory Lukin
This bad boy can fit 100 corporate HQs! (Image by David Mark from Pixabay )

3. Companies based in China. This is a controversial one, I know. I minored in Asian Studies in college, I love Chinese history, and I admire the entrepreneurial spirit and perseverance of Chinese people. Their current government, however, is not a rational actor. Consider what happened to Jack Ma, the co-founder of Alibaba. After he criticized China’s banks and regulators in a public speech in 2020, he disappeared from the public view.  Aside from a single video conference and an alleged sighting at a Chinese golf course, that billionaire went completely off the grid – or, rather, got taken off the grid. Having your company’s co-founder detained by communists is as bizarre and random as having the Spanish inquisition (whom nobody expects!) barge into your boardroom. There are some great and lucrative-sounding Chinese companies out there, but when their government doesn’t act rationally, it’s equally irrational to park your money there.

4. Pharmaceutical companies. The Big Pharma is a fascinating animal. At any given point, any one of the thousands of penny stocks in that industry can skyrocket 1,000% – or go utterly broke. If you’re an industry insider and/or have a source in the FDA, you’ll get a decent advantage. For the rest of us, this resembles legalized gambling too much for my tastes. A lot of time, the FDA’s decisions are simply irrational. For example, in June 2021 the FDA approved Biogen’s aducamunab (aka Aduhelm), the first new Alzheimer’s drug in 18 years. They did that even though the drug showed significant side effects and had only partially positive results. That was a highly controversial approval, but it made Biogen’s stock shoot up 63.7% overnight, from $286 to $467. A few months later, a 75-year-old Canadian woman with Alzheimer’s died after taking Aduhelm: her death may have been caused by one of the drug’s known side effects… Pharma stocks shoot up and crash down all the time, rapidly and mysteriously. It’s possible to make 1,000%, but you’re far more likely to lose it all. In my personal (and highly subjective) opinion, that’s more akin to gambling, not investing, and that’s why I would never invest in pharmaceutical companies.

pharmaceutical Big Pharma industry things I would never invest in Grigory Lukin
One of these will make you a millionaire. The rest will kill your portfolio. (Image by Arek Socha from Pixabay )

5. High-tech companies. We all remember the dot-com bubble, right? A giant stock market party that lasted from the mid-90s until March 2020, when the music stopped, the tide went out, and a lot of overly enthusiastic stock market gamblers lost a lot of money. (Or all their money, if they traded on margin.) As I’m writing this in December 2021, I’m seeing the same trends in the EV (electric vehicle) field – not just with Tesla, but with all the hyper-ambitious startups who produce more PowerPoint presentations than actual vehicles. There is some degree of hypocrisy here, given that I spent 11.5 years working at Amazon. (Toward the end, I was among the 0.4% most tenured employees. If you have a journo friend who wants a fun scoop, I’m available, eh.) The high-tech world is a bit less chaotic than the pharma industry, but you’d still need to be somewhat of an insider to know what will go up and what will crash. Sometimes, that’s obvious (i.e., Zoom’s stock crashing as the pandemic began to end); most times, it’s less apparent. I know that I don’t know enough, so I stay out of it entirely, and never invest in high-tech stocks.

These five self-imposed barriers define my area of expertise, my circle of competence: no matter how alluring the pitch may be, I stay away and never invest in them. That may mean I’ll miss out on some great, life-changing opportunity, but it may also mean avoiding a significant loss. For every Amazon, there are 100 companies like Theranos. Making wild, impulsive, and uneducated investments can be an expensive lesson. I hope this post will help you avoid at least one bad decision at some point in the future.

And what about you? Is there something that you would never invest in? Share your thoughts in the comments!

Leave a Reply

Your email address will not be published.