Smart Investing: The Art of the Deal
Having spent the last three decades of my life in the money world, I am frequently asked what are the smartest investing tips I would offer people looking in retrospect for someone starting his money career today…
Well here are my basic tips – some trivial, others much less obvious – for anyone wanting to build something not just of value but most importantly of meaning too.
1. It is not easy. Even some of the legendary investors like Jesse Livermore says it took him 5 years to learn. Warren Buffett began when he was 8 and learned the Graham approach when he was around 22. So it took him 14 years. Why should it take anybody less? There is no ‘silver bullet’. Investing is hard work and overnight success is indeed 15 years.
2. Before you make any investments…LEARN! Spend months reading and asking people in your social circle about investments, risks, rewards. Then decide a risk profile for yourself and take it from there.
3. Rationalization has no place in investing. When the story changes from your original premise, don’t rationalize. Imperfect understanding is part of the human condition. There is no shame in being wrong and no one is right all the time.
4. The only certainty is there is no certainty. Despite the uncertainty, we must decide and we must act. The only constant changes. Be open to change and have a plan to deal with different scenarios. Avoid hubris and pigheadedness; challenge preconceived notions.
5. Cycles are inevitable. Economies and human emotions rise and fall. Chief losses from investors come from the purchase of low-quality securities during times of favorable business conditions or mass euphoria. Be mindful of where we stand in a cycle.
6. There is no Return without Risk: Your return on any investment is always proportional to the risk you take. There is no such thing as a low-risk, high-return investment. If somebody says that, run as fast as you can from them.
7. Know the paramount importance of the relationship between price and value. No asset-class, sector or group has as its birthright the promise of a consistently high return.
8. Be constantly attuned to any discrepancy between your view and what the rest of the world is thinking. Keep studying that discrepancy. Know what the key debate is. Be curious and care about how the world actually works.
9. Take nothing for granted; be cognizant of the possibility of meeting…the “black swan”. Be aware that we are quite limited in our perceptions of reality, and we only have data on what has happened in the past. Therefore, any model of reality that we have assumes conditions similar to the past. We have ZERO guarantees that such conditions will prevail. There is a probability that such conditions will prevail, but we don’t actually know what that is. That said, not taking the future for granted is a strategy that is useful not only for investing but for life. Look at the future as unknowable in specifics, but foreseeable in character.
10. Always know both bull and bear case. Force yourself to find flaws in your rationale as painful as this might be. For every strong opinion, there is likely an opposite opinion from someone equally smart and knowledgeable.
11. Know the importance of contrarianism. Investment success requires sticking with positions made uncomfortable by their variance with popular opinion. Casual commitments invite casual reversals.
12. Everyone is a combination of bias, misinformation and/or has an agenda. Think for yourself. At the same time, be acutely aware of your own weakness and limitation. Remember that an investor has to guard against many things and most of all against himself. In a probabilistic field, judge decisions not only on the results but on how they were made.
13. Be relentless in replacing good ideas with better ideas. Keep raising your opportunity cost. Diversify among your ideas. Never bet the ranch. Greed spells most of the time downfall.
14. Keep in mind the magic of Compounding: Your money keeps multiplying the longer you save. If compound interest is the only thing you remember from your high school math, you will do good. Compounding of capital is extremely powerful, but having 40% of your wealth sent to the government in the form of taxes is even more powerful. All investments should be evaluated on an after-tax basis. If the fund manager, stock, bond, etc returned 10% pretax, what was the after-tax return? The differences can be massive. Try to pay the least capital gains tax on positions you sell.
15. Understand the time value of money: The reverse effect of compounding as such. It is very difficult to comprehend for many people that 1 million bucks in 20yrs from now, is roughly equivalent 150k today.
16. Manage your liquidity. Liquidity risk is the risk that one day an investment opportunity or catastrophic personal expense will arise, but you will be unable to sell your assets for a fair price within the necessary time-frame in order to effectively manage it. Make sure to keep some percentage of your portfolio in cash or other highly liquid instruments in order to mitigate this risk.
17. Stop loss: Everybody should have a stop loss, no matter how long-term you are. You may keep a very high value, but keep it to some value and follow it religiously. This might cause you a bit of loss at a couple of places, but in the long run, a strict stop loss will always save you money. Taking care of the downside will have the upside take care of itself. Insist on having a margin of safety. Opportunities are made up easier than losses.
18. Leverage and margin Limits: Most people fail to understand the pros and more importantly cons of leverage. Leveraged instruments are for trading, go with more traditional channels for investing. If you are a layman, don’t buy leveraged stuff, neither in stocks, nor in commodities. It is really painful when your margin limits are hit.
19. Never invest with someone who cold calls you. For every inexperienced investor this should be an unbreakable rule: Cold call = run away.
20. There are fees involved in any investment . If someone says otherwise they are; and the more you know about them the better off you are. Fees should be minuscule.
21. Always consider the greater fool, and wonder if it’s you. Sometimes you will know that an asset is priced well above its fair value. However, it may be likely that the asset will continue to appreciate far beyond even its current inflated value. Keep in mind that there is a lot of money to be made in riding bubbles, and a lot of money to be lost in riding them too long. Remember; If you don’t know who the sucker is, it’s probably you.
22. Have patience and stay disciplined. Pick your spots. It’s not timing the market, it’s time in the market” that will yield gains. The discipline that is most important in investing is not accounting, business or economics, but psychology.
23. It’s not a game. If you’re smart about your investments and you stick to your plan you will see tangible returns
Best of luck… Share your thoughts.