Investing money well requires a logical and robust framework on which to build a lifelong investment programme. It needs to be grounded in investment theory, supported by empirical evidence and enhanced with an insight into the behavioural traps and pitfalls that all investors face, that can and do cost them dear.
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Five lifelong principles
We start by looking at five guiding principles that provide the backbone for how we should think about investing, rather than what we should invest in.
Have faith in capitalism and confidence in the markets
Capitalism is an adaptive, robust economic system that has delivered incredible developments to the benefit of mankind. For example, the wealth creation of capitalism has meant that over the last 25 years, around 2,000,000,000 (two billion) are no longer trapped in crushing poverty and child mortality rates have fallen by over 50%. Despite the apparent doom and gloom, the world’s economy continues to grow, year-on-year, creating wealth and return opportunities for investors.
As investors, we need to keep faith in capitalism as a robust and resilient economic system and recognise that the markets are an efficient mechanism for rewarding those who provide capital to those engaged in the pursuit of wealth creation. The future looks bright from where we are sitting.
Accept that risk and return go hand in hand
One of the inescapable truths of investing is that to achieve higher returns, you have to take on more risk. That seems logical enough, but you would be surprised just how many investors seem to think that it is possible to get high returns with low risk. Yet risk should not be feared, because when appropriate risks are taken, they are the source of returns that investors seek.
mortality rates have fallen by over 50%. Despite the apparent doom and gloom, the world’s economy continues to grow, year-on-year, creating wealth and return opportunities for investors.
As investors, we need to keep faith in capitalism as a robust and resilient economic system and recognise that the markets are an efficient mechanism for rewarding those who provide capital to those engaged in the pursuit of wealth creation. The future looks bright from where we are sitting.
Accept that risk and return go hand in hand
One of the inescapable truths of investing is that to achieve higher returns, you have to take on more risk. That seems logical enough, but you would be surprised just how many investors seem to think that it is possible to get high returns with low risk. Yet risk should not be feared, because when appropriate risks are taken, they are the source of returns that investors seek. s – is that it is not a game worth playing. Letting the markets do the heavy lifting on returns takes a great weight off your shoulders; you no longer need to worry about picking the right stock, the right manager or deciding if you should be in or out of the markets. As one cannot control the returns of the markets, the structure of your portfolio becomes key.
Be patient – think long-term
One of the great challenges that all investors face is that there is no easy or quick way to investment success. Aesop’s fable of the tortoise and the hare is a useful metaphor. You have to use the time on your side – which could be over multiple decades – to capture the returns of the markets effectively, but often slowly. In the short-term, market returns can be disappointing. The longer you can hold for, the more likely the returns you will receive will be at worst survivable, and hopefully far more palatable. It is time that allows small returns to compound into large differences in outcome for the patient investor. The reality is that markets go up and down with regular monotony.
If you want to be a good investor, you have to be patient. On your investing journey, you will spend a lot of time going backwards, recovering from the set back and then surging forward again, often in short, sharp bursts of upward market movement. You just have to stick with it. Remember that you have to be in the markets to capture their returns. Impatient investors tend to lose faith in their investments too quickly, with often painful consequences.
Be disciplined
Patience and discipline are close bed fellows. Once you realise that to generate good long-term returns takes time, patience and belief in the markets, it is essential to put in place the discipline to stop yourself succumbing to impatience and ill-discipline. Discipline comes in many forms: sticking to the principles above; constructing well-researched and tested portfolios that should weather all investment seasons relatively well; not chasing investments that have gone up dramatically, but sticking with the logical reasons for not owning them in the first place; and the discipline to not become despondent about short-term, unimportant market noise, and to focus on your long-term strategy.
become despondent about short-term, unimportant market noise, and to focus on your long-term strategy too often. If you look at your portfolio every day you have about a 50/50 chance of seeing a loss, yet over five years that drops to around a 1-in-10 chance, falling further to around a 1-in-20 chance over 10 years. Time is your friend.