Mental Models discussed in this podcast:

• Opportunity Cost
• Margin of Safety
• Conviction

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Show Outline

The full show notes for this episode are available at https://www.diyinvesting.org/Episode95

Conviction Formula

Conviction is a function of Opportunity Cost, Margin of Safety, Position Sizing, and Upside

How much conviction do you need?

• Opportunity Cost - If you have a lot of good current positions, you need greater conviction to overcome that opportunity cost
• Position Sizing - Smaller positions need less conviction

How to build conviction in stocks

• Margin of Safety - You want it all! (Build a checklist)
  • Above Average Industry
  • Above Average Company within the industry
  • High Returns on Capital
  • Durable Business
  • Skilled Management
  • Management with skin-in-the-game
  • No dilution with buybacks preferred
  • Lower than average prices
  • "Conviction is like a checklist. The more boxes you can check, the greater your conviction."
• Upside - How high can this stock go? Is it possible to be a 10-bagger or 100-bagger?

Summary:

Conviction is a function of opportunity cost, the margin of safety, position-sizing, and upside. Your required conviction is determined by opportunity cost and position sizing. You increase conviction by improving the margin of safety and upside potential.