Conviction is what separates successful investors from everyone else.
Conviction drives the decision to buy a stock others might overlook or doubt.
Conviction is the belief that, despite risks and uncertainties, a stock is misunderstood, under appreciated or undervalued.
Conviction fuels our decisions to buy, to hold, to buy more, or to sell.
When building a Coffee Can Portfolio, conviction is the cornerstone of our operation. Each day we face the challenge of deciding whether to take the leap and invest in a company's vision.
Investment decisions often range from taking an early bet based on a promising idea, to waiting for the company to demonstrate specific milestones. This constant challenge prompts me to ponder how investors cultivate and maintain their belief in their chosen investments. Instinct alone seldom suffices in the stock market. Conviction, therefore, requires a blend of instincts, insight and evidence. It’s part science, and part art.
Personal Reflections on Conviction
I have always found it difficult to measure conviction. But, based on the past 10 years of observing my behavior after I make an investment, I have come to believe that I typically have high conviction:
When I am willing to make large bets.
When I am willing to buy a stock at higher prices.
When I am willing to buy a stock I already own at lower prices.
When I am willing to write about a stock on this Substack.
When I am willing to share my investment ideas with family.
When I am not bothered if a stock I own goes down.
When I don’t look at daily or weekly price movements of a stock I own.
What happens when I have conviction, but I am wrong?
Usually, after a few years have passed (post purchase), it becomes obvious. At that time, I try to think about what went wrong.
That said, what I have come to appreciate is the following:
Without leverage, the most you can lose on an investment is 100% (and that is also rather unlikely), but you can make multiples from a winning stock.
Therefore, rather than figuring out what to avoid when making an investment, I think a far better ROI can be had by learning what makes a winning stock instead.
The Role of Conviction and The Three Stages of a Maverick
As I’ve written before, I believe Mavericks, the best companies of our time, undergo three stages of development:
Stage 1: Disruptors
Stage 2: Contenders
Stage 3: Leaders
An investor must decide whether a company is a Maverick, and if so, whether it’s a Disruptor, a Contender, or a Leader.
But how do you decide, and when do they graduate from one stage to the next?
I have come to the conclusion that this determination is based on one’s own conviction, and not simply based on a company’s results.
Why?
Because when it comes to investment opportunities, beauty is in the eye of the beholder. The same investment opportunity may look amazing or completely ridiculous to different people. I experienced this first hand when listening to startup pitches when I worked in Venture Capital. All the people in the room heard the same pitch, but everyone’s takeaways and interest levels were always different. This is because people have different goals, biases, experiences, time frames, risk tolerance, personalities etc. All of these affect one’s investment judgment.
Here are a few examples of how my conviction levels have impacted my investment decisions, and how my convictions changed over time:
I recently wrote that I decided to investigate Nextdoor before IRobot. That’s because I believe Nextdoor is a Maverick, while IRobot isn’t. I believe IRobot once used to be, but the company hasn’t been able to breakthrough into becoming a Leader. This was a subjective categorization.
In July 2020, I listed Bitcoin as a Contender, but today I consider Bitcoin to be a Leader. What changed? My conviction level. I would not have bought more at $38,000, an almost 4X higher price, if I didn’t think that were the case.
In July 2020, I also listed Pinterest as a Contender. Today, I still believe it to be a Contender, but my conviction level has decreased. I was unwilling to buy shares in 2022 when prices had declined substantially.
In Conclusion
As an investor, I must cultivate my investment. My job is to make informed bets based on my convictions. For some stocks, my conviction is immediate, with data merely reinforcing my belief. For others, I require additional time and research to overcome my initial skepticism, insufficient understanding, or lack of foresight. Ultimately, I seek investments that resonate with my understanding, beliefs, and risk tolerance. This alignment is crucial.
How do you determine your conviction level?