Blog post #465
“There is no reason to risk what you have and need for what you don’t have and don’t need.”**
This sentence from the excellent new book that I’m reading, The Psychology of Money, by Morgan Housel, really made me think. And many other of his insights were just as thought provoking.
Housel’s book provides a different way to look at money than most financial or investment books.
To be able to think through the opening sentence of this post, which means that you shouldn’t take unnecessary risk for what you don’t have and don’t need, you must ask yourself how much money is enough? How much money do you need?
These can be difficult questions for some, and easy for others, depending on how much money you have, your age and your specific circumstances. It also has to do with the type of lifestyle you choose to live. And how important that lifestyle is to you.
If you really have enough money, do you need to take on additional risk? This is a worthwhile conversation to have with us, as your financial advisor.
“Enough” is not too little. Housel writes that “the idea of having “enough” might look like conservatism, leaving opportunity and potential on the table…”Enough” is realizing that the opposite -an insatiable appetite for more-will push you to the point of regret.” *** Housel is implying that it is not wise to allocate more to stocks, or other types of investments that could be risky (even if they don’t seem risky when you initially invest in them), when you don’t need to take on the additional risk.
In other words, you may not need to take on additional risk when the potential for loss is not worth the upside. We strive as your financial advisor to develop a reasonable investment plan for you, so that you do not take on too much risk.
If you have enough money, what is the reasonable way to invest, so that you can maintain, preserve and grow your assets, without incurring the risk of major losses which would impact your financial lifestyle? Answering that question is what our firm, and our investment strategy, is all about.
Housel stresses the importance and value of long-term investing and the benefits of compounding, which happens by being a patient investor for decades and decades. Housel writes that “…good investing isn’t necessarily about earning the highest returns, because the highest returns tend to be one-off hits that can’t be repeated. It’s about earning pretty good returns that you can stick with and which can be repeated for the longest period of time. That’s when compounding runs wild. The opposite of this-earning huge returns that can’t be held onto-leads to some tragic stories.”****
This is why our approach of building diversified portfolios is so important. We may not generate the returns you could get by buying the hottest individual stocks, but that is not our goal. We are striving to help you build long-term wealth in a manner that you can adhere to for the rest of your life.
In his 5th chapter, Housel explains that it is not just about creating wealth and becoming wealthy (which is an amount that each person/family must define for themselves), it’s about staying wealthy. “Good investing is not necessarily about making good decisions. It’s about consistently not screwing up.”
If you don’t yet have “enough” money or wealth, these concepts are just as applicable. Saving early, investing regardless of market conditions, not taking unnecessary risks and consistently making good financial decisions all contribute to your long-term financial growth. And then the benefit of compounding over decades can help you even further.
Housel feels that “survival” is the single word he would use to describe money success. I would have never thought about that term, but he makes sense. Getting money and keeping money are two different skills. He explains a survival mentality is key, as “few gains are so great that they’re worth wiping yourself out over.”
- More than wanting big returns, it means to be “financially unbreakable.” If you are unbreakable, you will get the biggest returns (over the long-term), because you will be able to stick around long enough for compounding to work wonders.
- Planning is important, but the most important part of every plan is to plan on the plan not going according to plan.
- Being optimistic about the future, but also paranoid about what will prevent you from getting to the future, are vital.
These concepts all make great sense to our firm. In Housel’s book, which I highly recommend, he uses many stories and analogies to further explains his ideas.
Here are a few ways that our investment philosophy is congruent with Housel’s way of thinking.
We work with you to develop an asset allocation plan, which is our way to control the amount of risk that you “need” to take. When a client can meet all their financial needs with a 40% stock allocation, we don’t recommend an 80% stock allocation, just so they can try to get even wealthier. The potential upside is usually not worth the risk and the added stress of huge, temporary market declines.
The way that our firm diversifies your assets at many different levels is consistent with Housel’s thoughts. We diversify by recommending different asset class investments which own thousands of companies in many industries, in the US and throughout the world. We could own just a handful of stocks or bonds and not be as diversified. That may lead to huge gains in some periods but lead to large losses in other times. The risk is not worth the benefit, in our opinion.
We say that we are “rationally optimistic,” but we also realize that the unexpected happens all the time. Events occur that we don’t expect. We are living through that right now. Markets drop when we don’t see it coming. That’s why we often remind you that it is normal for stock markets to incur huge losses at least once every 5 years on average and that 10% declines occur at some point in almost every year, even if the annual results are positive.
I have not finished reading The Psychology of Money, but what I have read has been helpful to me. It has confirmed our overall philosophy in many respects. But maybe even more important, it has provided many new ways to think about, and to talk with you about money, risk and strategies to be financially successful. And that should be helpful to you.
** page 41, *** page 42, ****Page 53