8 timeless rules for investors
September 27, 2023
4 minutes to read
1. Your asset class determines your return
Essentially, successful investment is not all about buying or selling X stocks or Y bonds at exactly the right moment. What matters most is how you allocate your money across the various asset classes: stocks, bonds, commodities, real estate, and so on. In the long term, this will determine around 90% of your return. Instead of focusing on the 'perfect stock' or the 'right time' to buy or sell, it pays to look at what asset classes you should include in your portfolio and in what proportion. History has taught us that stocks are the asset class that offers the best long-term prospects for a higher potential return. However, that doesn't mean everyone should simply fill their portfolio with stocks. How you ultimately distribute your asset classes depends on your unique situation. For instance, you may be planning to hold on to your investments for 25 years, implying you can live with seeing them fluctuate greatly during that time. In that case, a portfolio of 100% stocks may be a good option. If your horizon is shorter – say, less than a year – and you are not keen on taking risks, money market funds may be a better option for you.
2. Be optimistic
Few countries or regions have economies that show long-term deterioration, no matter what graphs you look at. According to the World Bank, there have been only 5 global recessions since 1960: in 1975, 1982, 1991, 2009 and 2020. In other words, in the past 73 years, the global economy grew for roughly 68 years and contracted for 5 years.
If the economy contracts, it tends to be relatively brief. World Bank data shows us that the global recessions of 1975, 1982, 1991 and 2009 lasted one year, while the recession of 2020 lasted one quarter. Although we tend to focus on the bad news of the day (Another major bankruptcy! Falling consumer confidence! Rising oil prices!), it is worth taking a look at the bigger picture from time to time, as this will give you an entirely different view.
Although the economy and stock markets are not a mirror image of each other, a growing economy tends to be reflected in the performance of the stock market. Even though it may seem as though the world is about to end every so often, financial markets generally follow the same trajectory as profits. In concrete terms, this means that in the last 6 decades, we have survived two global pandemics (the Hong Kong flu in 1968 and more recently COVID-19), a US president being assassinated in public, a divisive Cold War, an oil shock, the destruction of the Twin Towers, millions of deaths in conflicts ranging from the Balkans to Vietnam, hyperinflation or deflation in several countries, the collapse of the Soviet Union, the 2008 financial meltdown, thousands of large companies going bankrupt, Brexit, countless natural disasters, the premature end of hundreds of governments, several financial market crashes, and eight albums by Jamiroquai. Nevertheless, during that turbulent period, the S&P 500 rose by an astonishing factor of 60 from 75 to 4,500 points. So feel free to be optimistic as an investor.
3. Diversification is not sexy, but it does work
Not everyone is a fan of the traditional approach of gradually and carefully investing assets in a diversified portfolio. Around 10 years ago, billionaire investor Mark Cuban even stated that diversification is for idiots. A long list of new crypto billionaires and meme stocks moguls now agree with him, proclaiming that the best and most sure-fire way to get rich quickly is not by diversifying, but by concentrating.
So, yes, be optimistic when you invest, but keep both feet on the ground and don't put all your eggs in one basket, because for every investor who becomes immensely rich in just a few months by speculating on the stock market, there are many, many more who fail. Investing most of your assets in diversified trackers or investment funds may not be as exciting, but it does offer a more balanced route to a better financial future, and you will sleep better as you move towards it. According to a study by Natixis, in 2021 the average US private investor expected their investment portfolio to generate a long-term annual return of 17.5%, which is something only Warren Buffet and a handful of other professionals are capable of doing. In other words, be realistic in your expectations and don't let yourself be swayed by overconfidence or the urge to get rich quickly.
4. Reduce your risks as you age (but don't do it too soon)
If you are in your twenties and just starting to invest, it is generally advisable to focus more on riskier investments, such as stocks, than on more defensive ones, such as money market funds, bonds and structured products. The reason is simple: a higher risk usually comes with a higher potential return and the younger you are, the more time your investments have to recover from a stock market dip. At a younger age, it may therefore bet better to invest more dynamically, unless you want to buy real estate next year or you don't want to take the risk of seeing your investments fall temporarily for another reason. As you get older, it may be a good idea to gradually adopt a more conservative investment strategy. Stocks are generally more sensitive to fluctuations and therefore need time to recover if the markets are in turmoil. Reducing some of the risks at a later age may offer your accumulated assets more protection against downside risks. In the past, advisors often recommended subtracting your age from 100 to determine the percentage of stocks you should hold in your portfolio. This would mean a 25-year-old would invest 75% of their portfolio in stocks. However, as our life expectancy increases, 110 or even 120 may be a better benchmark. Of course, everything also depends on your personal objectives. If, for example, you want your entire investment portfolio to go to your (grand)children in the future, it may be advisable to keep investing in stocks well into your nineties.
5. Always set up a stop loss order
Buying stocks often goes hand in hand with enthusiasm and optimism. However, even the most in-depth analysis will not be able to turn the tide when the market turns against you. This is where a stop loss order comes in. This tool protects you against any major losses by automatically selling a stock again once the price has fallen to a certain level.
Setting up a stop loss order gives you room to fail without suffering any major financial consequences. Think of a stop loss order as a safety net: you should never need it, but if you do, you will be happy it is there. A stop loss order also helps you to avoid any emotional decisions. The fear of losing often tempts us to make impulsive choices. A stop loss order provides a predetermined exit plan, which allows you to manage your risks in a rational way. A stop loss order therefore makes your investment strategy more risk-resistant and means you can sleep well at night.
6. There is no such thing as the right price for a stock
Investors often believe stocks or other securities have one rational price. This means we sometimes become frustrated if stock prices aren't doing what we think they should. However, what we often don't think about is that hundreds of millions of securities change owners every day. And every owner has their own reasons to buy or sell. And one investor's rational motivation doesn't make any sense to the other. If you ask 100 people why they invest in Tesla, there is a good chance you will get 100 different answers. For example, someone with a 10-year horizon may have analysed the technology and automotive industries and concluded that Tesla's management is capable of dominating those industries over the next 10 years. Someone who is looking to sell the stocks again within the year may have based their decision on factors such as Tesla’s current product cycle. Meanwhile, a day trader who doesn't really care what stocks they invest in may have seen a trend on a chart and simply wanted to earn a few dollars in the space of an afternoon. In other words, there is not much point in trying to understand stock prices.
7. Stay invested
It may sound crazy, but as an investor, the best strategy is often to be 'lazy' and stay invested. Investors often praise Warren Buffet because 'he has managed to identify the right opportunities at the right time over and over again'. Although Buffet is undoubtedly very talented, the reality is somewhat more nuanced. After Berkshire Hathaway's shareholder meeting in 2013, Buffet stated that during his lifetime, he had invested in 400 to 500 stocks, but most of his return was generated by just 10 stocks. His right-hand man Charlie Munger added: “If you take away just a few top investments, our track record would look pretty average.”
More than 2,000 books have been written about how Warren Buffett – now aged 93 – made his fortune. However, few have paid attention to the fact that he started investing when he was 11 years old. As per August 2023, his net worth is USD 123 billion. It is worth noting that he generated USD 119 billion of that after his 65th birthday. Our minds are not built to cope with this absurdity: Warren Buffet’s secret is not so much his nose for opportunities and timing; it is mainly based on 'staying invested' rather than attempting to time the market.
8. Keep things simple
For some, investing is a true passion: they read annual reports, spend hours on Bloomberg every day, analyse complex graphs and manage their own portfolio with dozens, if not hundreds, of lines. However, not everyone has the time, inclination or knowledge to do all that homework, and they don't have to either. So why make things hard on yourself? You don't need to be an experienced investor to seize opportunities in the financial markets in a convenient way. Instead of putting together your own basket of stocks and bonds, why not opt for a tracker or fund that is managed by a professional? Or you can take things one step further: why select trackers and funds yourself if you could choose a simple, comprehensive solution such as an investment plan or asset management service? This will save you time and energy and cut your transaction costs without compromising any potential returns.
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