The Four Keys to Investing Success

by

Like we mentioned in an earlier post, a big part of good financial management starts with cash flow management

Once you get those basics down, you can evolve from there. From saving to investing but also to other elements of financial planning. You can venture into tax planning, insurance management, estate planning and more.

We’ll touch on some of those elements later but for the purposes of this post, we’re going to zone in on some keys to investing success before we actually invest.

“The wonderful magic of compounding returns that is reflected in the long-term productivity of American business, then, is translated into equally wonderful returns in the stock market. But those returns are overwhelmed by the powerful tyranny of compounding the costs of investing. For those who choose to play the game, the odds in favor of the successful achievement of superior returns are terrible. Simply playing the game consigns the average investor to a woeful shortfall to the returns generated by the stock market over the long term.” – John Bogle, founder of Vanguard Group.

We feel this quote represents succinctly how most Canadians should consider investing – as a multi-year long-term endeavour.

You’ll read much more about investing in our second theme but for now, we want to introduce you to the four commonly known keys to successful investing that you’ll need to be mindful of before you begin your investing journey. We are doing it this way to best frame why our proposed investing approach will work for you (and why we practice a similar investing approach ourselves).

We’ve leveraged a seminal investing book entitled The Four Pillars of Investing (by William Bernstein) to introduce these concepts to you.

Key 1 – Investing Theory

Whether you invest in stocks, bonds, real estate or more speculative plays like Bitcoin, you should know that you’re mainly rewarded with returns for your exposure to just one thing— risk.

Risk, on the whole, is difficult to define and measure especially at the personal level but essentially it comes in two main flavours: short-term and long-term. 

Short-term risk might be easier to relate to. Stocks, bonds, and other assets can lose money in the short-term. Sometimes these assets go down in value in the short-term, as in a few months, by A LOT.

Long-term risk—the probability of running out of money over the decades—is an entirely different matter. 

Sadly, human beings with our lizard brains are more concerned with short-term risk than long-term risk, which is unfortunate. Long-term returns (and the investing equity risk in common stocks we should take on to acquire those returns) are far more important.

We’ve included a small graphic below to highlight this point, how long-term you are generally rewarded for taking on stock market risk even though near-term it may seem totally unbearable thanks to the yo-yo dynamics of the stock market.

Key 2 – Investing History

By investing history, what we mean is, from time to time the stock market and investors that invest in it go just bonkers.

But investing history consistently tells us “this too shall pass”.

While taking on more equity risk can be fraught with much hand-wringing in any given year (see example below), we can see over the long-term (meaning over a multi-decade period) that generally a portfolio in stocks will generally outperform a portfolio of bonds.

While 100% equity investing might be the obvious choice thanks to the table above, it cannot be stressed enough that between planning and execution lies a potentially stratospheric gap!

This means it might “look good” on paper to design your portfolio with all-stocks. It’s something entirely different to see your portfolio down 30% or 40% in a major market meltdown if you do because it can and will happen from time to time. We believe it is much better to underestimate your risk tolerance than to overexpose yourself – biting off more than you think you can chew.

This leads us to investing key number three.

Key 3 – Investing Psychology

In spite of the fact that the average payoff of a lottery ticket is statically less than you paid for the ticket, millions upon millions of people still “invest” in lottery tickets every day.

Why is that? Is that you?

If so, we don’t think buying lottery tickets makes you a bad person! Rather, we simply want to highlight that the same behavioural mindsets can cause significant investing dysfunction if not properly understood or attended to.

This is because until you train your investing brain, you’ll read about and find most investors:

  1. Trade too much, or
  2. Don’t understand their investing fees, or
  3. Make irrational buy and sell decisions. 

Worse still, maybe all three mistakes apply.

So, we’ll have some advice and practical steps for you to take in future posts. 

We’ll also include some of our personal lessons learned so you don’t fall into the same traps yourself!

Key 4 – Investing Business

We believe the more you know about the financial industry’s priorities, the more likely it is that you’ll be able to thwart it. 

Simply put, the brokerages and financial industry at large is a colossal machine designed to do one major thing: make money off you.

(If you ever doubt this, turn on your television for a couple of hours and count the credit card companies, banking companies, loan companies and more you see advertising to you.)

As the fourth key to be mindful of when it comes to investing, you should simply be very wary of any financial company trying to be your best friend. Absolutely, there are great companies out there. But essentially, financial companies are in the business to do one thing and doing it very well for shareholders – make lots of money.

Summary

Unlike other authors, we don’t believe you need to master any element of investing to be wealthier for it. You simply need to make more good decisions than poor ones. 

Our section on investing will show you, in very practical steps, how to formulate an investing approach that you can stick to and adjust with over time. The approach won’t cost much. It will help you sleep at night. It will also help you get wealthy eventually if you stick to the plan like we largely have.

A reminder – our site is new and we want to hear from you – so subscribe to the site and enter our $100 Amazon.ca gift card giveaway!

If you find this article helpful, feel free to share:
Tweet about this on Twitter
Twitter
Share on Facebook
Facebook
Share on LinkedIn
Linkedin
Pin on Pinterest
Pinterest
Email this to someone
email
Print this page
Print

Disclosure: Cashflows & Portfolios is reader-supported. When you buy through links on our site, we may earn an affiliate commission.

Leave a Comment