Circle of competence has been used by Warren Buffett over the years as a way to focus investors in the areas they knew the best. According to him an investor should not necessarily be able to evaluate every company or even many companies. An investor should be able to evaluate those companies that is best suited to him within his circle of competence. The size of this circle is not important, but understanding the boundaries of the circle is important.
Circle of competence is nothing but the subject area that matches your skills and expertise. You become skillful and expert only when you work hard with dedication; you can be dedicated only when you enjoy the work you do; and when you enjoy your work, that means you are enhancing your circle of competence. Thus, when a person enhances his circle of competence, he is likely to become successful in life.
The following chain is explained in the diagram given below
Circle of competence in words of Charlie Munger:
“You have to figure out what your own aptitudes are. If you play games where other people have the aptitudes and you don’t, you’re going to lose. And that’s as close to certain as any prediction that you can make. You have to figure out where you’ve got an edge. And you’ve got to play within your own circle of competence.
If you want to be the best tennis player in the world, you may start out trying and soon find out that it’s hopeless—that other people blow right by you. However, if you want to become the best plumbing contractor in Bemidji, that is probably doable by two-thirds of you. It takes a will. It takes the intelligence. But after a while, you’d gradually know all about the plumbing business in Bemidji and master the art. That is an attainable objective, given enough discipline. And people who could never win a chess tournament or stand in center court in a respectable tennis tournament can rise quite high in life by slowly developing a circle of competence—which results partly from what they were born with and partly from what they slowly develop through work.”
According to Warren Buffett, the investors need not necessarily find extraordinary areas to invest their capital in. Far more important is to honestly define what we do know and stick to those areas. Our circle of competence can be widened, but only slowly and over time. Mistakes are most often made when straying from this discipline.
If you want to improve your odds of success in life and business, then define the perimeter of your circle of competence, and operate inside. Over time, work to expand that circle but never fool yourself about where it stands today, and never be afraid to say “I don’t know.”
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Written By: Astha Sundarka
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