~ Un-Common Sense In An Irrational World: We Challenge the Conventional WisdomTM ~
OVERVALUED MARKETS AND THE PARABLE OF THE OIL PROSPECTORS
Benjamin Graham – mentor, friend, and teacher to Warren Buffett and Charlie Munger – passed this parable on to Buffett and Munger. The anecdote illustrates how crowd psychology and herd mentality can override logic in investing and lead to overvalued markets and other investment fallacies.
The parable of the oil prospectors
The story, which Buffett has retold many times, goes like this:
- At the pearly gates: An oil prospector arrives at heaven and is told by St. Peter that the section for oil men is already full.
- The message: Desperate, the prospector asks to deliver a four-word message to the men inside. St. Peter agrees. The prospector yells, “Oil discovered in hell!”
- The exodus: Immediately, all the oil men rush out of heaven to go to hell.
- The twist: St. Peter offers the prospector a place in heaven, but he declines, saying, “I think I’ll just go along with the rest of them. After all, there may be some truth to the rumor”.
Interpretation and meaning
The parable is a cautionary tale about succumbing to market speculation and herd behavior, even when it goes against rational judgment.
- Rationality vs. rumor: The oil prospectors in heaven knew they were in a perfect place, yet the rumor of “easy money” in hell was so tempting that they abandoned a certainty for a wild goose chase.
- Speculation vs. value: Graham and Buffett, proponents of value investing, use the story to warn against chasing speculative bubbles and trends. Even when an investment seems irrational, the fear of missing out (FOMO) can lead even disciplined people to follow the crowd.
- Focus on fundamentals: The story reminds investors to ignore market noise and rumors, and instead focus on a company’s intrinsic value, or the solid, foundational facts of the business.
For our current estimate of the valuation of the markets, see our Markets section.