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For some time now I have been ruminating over a post regarding Munger's idea of mental models. Since then, Rich Rockwood has posted an article on the subject (which I have not yet read), and there is word in the wind that Robert Hagstrom is working up a book on Munger's models.

I had made some notes on the mental models I use, but unfortunately I have not had time to boil them down to a logically organized article. So forgive me if these seem a bit scattershot.

As a preface, let me mention that what Munger calls "models" I am tempted to call "analogies." The difference, I think, is that the term model has a stronger implication of outcome predictability. But I think the two are quite similar, and Douglas Hofstadter, a thinker I greatly respect, has said that he believes mankind learns primarily by analogy. FWIW.

1) Orders. Quite often things have an effect in proportion to the number of items affected. The effect might be Order(n), where the effect is proprotional to the number of items. It might be Order(n*log(n)), the number of items times its base 10 logarithm. It might be Order(n*n), or Order(n-squared). It's important to know which kind of effect you are dealing with. Enthusiastically assuming, for instance, an Order(n-squared) relationship when the true relationship is Order(n*log(n)) will lead to great disappointments.

2) Think ahead. Certain jokes have a lot of truth in them. One I like very much regards the moron who was running to school next to his bicycle. When asked why he was doing this, he replied "Because I don't have time to get on." Similarly, we often see companies failing to invest for the long-term, or losing sight of their objectives.

3) Critical mass. The idea that you sometimes need a certain amount of "something" to get that something moving, but once you get it gathered together it will gain force at an explosive rate. (comes from Munger).

4) Strong foundation. Basic engineering . . . you can only build as high as the foundation can support.

5) Evolution. The tendency for stronger and adaptable organisms (or businesses) to survive where others fail. (comes from Munger).

6) Market as ecosystem. Like an ecosystem, the market has numerous players who interact with and affect one another; changes in the number, size, or health of one "species" can greatly affect others. (comes from Munger).

7) Military aspects. Dad told me that the three aspects of military combat are communication, mobility, and concentration. These are important to businesses as well.

8) Law of Diminishing Return. Sometimes it just doesn't make more sense for a business to keep throwing money at something which is less and less profitable.

9) Games, and zero-sum games. Not in my area of expertise, so someone else could say something more intelligent than I. However, I have always found it interesting that if I win the \$2 million contract and you don't, then I am actually \$4 million ahead of you . . .

10) Risk models and decision theory. The simple laying-out-in-a-graph of possible outcomes, their probabilities, the positive or negative results of those outcomes, and backtracking to produce the expectations for certain choices. Very important, and so rarely actually done.

11) Orthogonal operations. The idea of an instruction set wherein each command does what it does, and no other command does what any other one does. This makes for great clarity over, for instance, an instruction set where the same thing can be done in multiple ways.

12) Flowcharting. Setting down a process in graphical form can be very soothing when trying to comprehend a complex process.

13) Style vs. substance. A model which can be easy to use . . . too much style often means not much substance. Not much substance is usually bad in the long term. Or to put it another way, "we may not have much of a business model, but we have a really cool logo/website/commercial . . ."

14) "It ain't worth it." Sometimes you just have to say no.

15) Permutations and combinations, elementary probability. Important stuff to know. (from Munger).

16) Accounting. The language of business. You need to understand it. (from Munger).

17) The normal distribution (bell-shaped curve). A fundamental model for events and their likelihoods. (from Munger).

18) Economies and advantages of scale. Or why the big guy wins a lot of the time. There are also disadvantages . . . it's important to know when and which one applies. (from Munger).

19) Feedback loops. Can be negative feedback (I eat more, I see that I weigh more, so I eat less), or positive feedback (I do something, I get praised, I do more of it).

20) Quality vs. quantity. Rather like style vs. substance, these two often trade off directly one for the other. I prefer quality, but quantity can be awesome in its own way.

21) Advantage of being well-known. The "social proof" (everyone else uses it, so it must be good) is very powerful. (from Munger).

22) Disadvantages of scale. As mentioned above. Specialists can beat you. Your own bureaucracy can kill you. (from Munger).

23) 80-20 rule. So often, 80% of the benefit comes from 20% of the activity. 80% of the sales come from 20% of the customers. 80% of the profit comes from 20% of the product line. Try to cut back on that other 80% that is not producing, and business will be better.

24) Buffett's tiptoe analogy. A new technology is, for a business, like standing on tiptoe at a football game. It works great when you're the only one doing it, but sooner or later everyone is standing on tiptoe, and you've lost the advantage.

25) Competitive destruction. Better new stuff destroys old stuff. It's better to be the destroyer of your own company's products than to let some other company do it for you.

26) Circle of competence. Do what you know how to do well. Companies should follow this rule also.

27) "too many issues". Sometimes you don't really need to analyze the entire situation to see that there are just too many things that are out of your control.

28) Compounding. The power of compounding really is incredible.

29) Avoid the extremes. I find that the most expensive item is usually too expensive for what you're getting, and the least expensive is a piece of junk. Somewhere above the middle is best.

30) Don't fall in love with it. If you spend a lot of time on something, there's a tendency to fall in love with that thing. Try to be dispassionate and make rational judgments.

31) Simpler is better. The easy-to-execute business plan is likely to beat the sophisticated, difficult to administer one.

32) Control what you can control, know what you can't. Similar to circle of competence. Be aware of what is out of your control, and make contingency plans.

33) You don't have to pick the biggest winners to do very well. You also don't have to buy at the high and sell at the low. I've come to the conclusion that if you buy within 20% of the low and sell within 20% of the high, you are probably a genius. Swing for singles and doubles.

34) You don't have to be right every time. In fact, if you are, you're probably not taking enough risk.

35) Whack-A-Mole. Sometimes you get in a situation where every time you smack down one problem, another pops up. You can't win that game.

36) Shiny nickels. One of the best business-related cartoons I've seen showed a little kid sitting behind a table with a sign that read "Clean Shiny Nickels -- Ten Cents Each". Buy the dirty nickels for 5 cents -- or less.

37) You can overthink things. Stick with the fundamentals, and don't try to determine the indeterminable.

38) The Long-Term. It's long. Be patient.

UsuallyReasonable

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