This is a philosophical post, not for myself, but for you. This question was inspired by something I read on a blog where the author stated they hoped to get rich through investing. This quip isn't an isolated case, I've heard this from others as well, they invest to get rich, that's their goal.
If you want to get rich I have one piece of advice. Sell all your stocks, walk away from the market and go start a business. With the exception of Warren Buffett there are very few rich people who became rich through investing in publicly traded companies. But what about all those famous investors? Look closely and you'll find they're all rich from starting a business, an asset management businesses.
It's not unusual to hear of entrepreneurs growing companies at 20-50-200% a year or more. There is a startup blog I follow where they claim anyone not growing at 10% a month is failing. Madoff's investors thought they had found the holy grail of investing at 12% a year. It's not uncommon to hear of people starting successful service businesses from a few thousand dollars in initial capital and growing them into companies that generate hundreds of thousands of dollars a year. Whereas it's unusual to hear of someone who starts with a $5,000 brokerage account and turns it unto something throwing off $150,000 a year in dividends within three to five years.
I believe investors with a purpose outperform investors without a purpose. It's like getting in a car to go drive somewhere without knowing the destination. I imagine drivers (investors) who want to get rich are trying to drive to "someplace better" without knowing where that is. Drivers who have a destination in mind can be focused on it, and their focus helps them from driving aimlessly.
My own goal is twofold. I'm first investing a portion of our savings for purchases far in the future. It sounds strange to say that the money we save now is for purchases in the future, but it is. I would rather spend the money I invest at some point rather than hand my kids a pile of cash I never touched. If I spend it, or my kids spend it, or the government spends it, it will eventually be spent by someone at some time.
The second goal of my investing is to maximize the returns possible by taking the least amount of risk. I do that by buying assets and earnings at discounts that are only available in public equities. It seems like a paradox, but private markets for companies are much more efficient than the public market. Outside of extremely unusual situations it would be rare for a private company to sell for less than their property and plant, or less than NCAV, or even for a few times earnings. Yet these conditions are occur with regularity in the public markets.
Staying focused on your purpose helps to ignore investments that don't "fit". An investing purpose could be confused with Buffett's circle of competence. I think they're different, I hear people throw ideas out because it's out of their circle of competence. To me the circle of competence is a phrase meaning that someone intimately understands the topic at hand. There are many ideas that I understand well, but they don't fit my investing purpose. The worst abuse of the phrase is when investors use it as an excuse to not investigate an investment. "Oh banks, that's outside my circle, I'm happy with a tiny circle so I'd rather not learn something new.."
The benefit of having a purpose is that it helps an investor keep focus. I know the types of stocks I do well investing in. There are plenty of other styles of investing that work well for other investors, but they don't work for me. When someone pitches something that doesn't fit in my purpose I can listen and appreciate the idea, but it's not something I need to act on. Having an investing purpose also keeps me from speculating too. I'm focused on long term results, and want to stay aware of risk, by keeping my purpose in mind I don't buy stocks hoping they'll pop on an earnings surprise, or trade short term on rumors.
There are probably very successful investors who had no purpose, maybe it's not even necessary. I know for myself having a purpose to my investments has helped tremendously. I'm not thrown to and fro by the market's waves, I can react quickly when I see an opportunity, and it helps me recognize investments that are good, but not a good fit for myself.
Another enjoyable post! As for your second goal, that seems to be the goal OF investing, not a goal FOR investing. Investing is, by definition, the very act of trying to achieve suitable risk adjusted returns. The question I believe you're asking is, why are you trying to achieve the returns?
ReplyDeleteThanks, you're right, yet there is a nuance that I think didn't translate well through the text.
DeleteIt's the focus on how I plan on achieving my risk adjusted returns. By having that goal/method/plan/purpose it helps me stay on track. It keeps me patient, and I'm not enticed by other investments that might produce good returns, but aren't I typically do. I'm all for flexibility, but there's a point in being flexible where the flexibility can veer so far off course that mistakes start to happen.
What is the startup blog you follow?
ReplyDeleteI like reading Paul Graham's stuff: http://www.paulgraham.com/index.html
DeleteHe mentions this growth rate in an essay, and then on a related site of his news.ycombinator.com there are a lot of blogs where these metrics come up. The news aggregator is excellent if you like startup news.
Thanks. This post made me think about my own purpose for investing in stocks and why I take the risk. Great job.
ReplyDeleteThanks for the comment, glad to know the post hit home!
DeleteThe Madoff 12% over 40 years provides the coveted $1m at retirement. You sort of get "rich" in the end, given $1m isn't what it used to be.
ReplyDeleteBesides, anecdotal evidence shows that value investors sort of default to the Buffett expectation of beating the market, on average, by a couple of percentage points. I guess this means 10-15% returns.
It's pretty hard to set expectations, especially for those just starting out - high on the success stories out there (stories of failure are rather hard to come by).
Nice post!
I kind of agree but kinda disagree. What are you really saying here that's not totally obvious? The reason you invest now is so that your money will grow and you'll have more of it later? Who doesn't have that as an investing purpose?
ReplyDeleteIf a guy has only have $5,000 to invest and he thinks he's going to get rich off it then he obviously is too deluded to ever have good returns with any amount of money. If you think you'll get rich with that you're kind of an idiot, although it's good practice if you're young and want experience for later. If you think starting a business that throws off hundreds of thousands of dollars with 5 grand to start with is some super easy, realistic thing to aim for I'd disagree. If the entirety of your investable net worth is $5k go get a skill and get a job.
I started investing with $10k or so when I was in uni just to get my feet wet and because it was something I really enjoyed. When I actually did start making some money as I got older and entered the workforce I was much more comfortable figuring out what to do with it. It's done well and now I'm in my early 30s with about a $500k portfolio. While I don't think I'll ever be super mega rich I know that if I manage it wisely and avoid something really unfortunate like a brain tumor or some kind of weird lawsuit or something that's enough to really add up to something in 20 or 30 years.
I will disagree with the guy above me too- the average retail guy who claims to be a value investor isn't gonna be anywhere near 10-15% returns. Way way off. Most people just aren't wired for this sort of thing. Even if they know what they should be doing, people (even smart ones) are too greedy/fearful/bad at handicapping risk.
If one lives well below their means and saves a lot they can do well for themselves investing. But the majority of the return comes from early saving verses earning earnings. If you can max out a 401k and IRA's every year that's $21k worth of savings. Early and consistent savings are much more important than returns.
DeleteI actually had a paragraph in the post that I deleted before publishing. It essentially said that while not rich, if someone has a well paying job, saves a lot and invests prudently, they will be able to accumulate quite a nest egg. This is the path you're on, this is a good course to take.
I think you're right about the average retail guy as well. Knowing the right action to take and doing it are two different things.
The last point (your first point), I agree with you, but I'd go a step further. There's almost nothing I write about that's not completely obvious. I'm not blazing any new paths here, mostly putting into practice stuff written 80 years ago.
Forgot to respond about starting a business. Someone with a lot of hustle can start a service business with almost no capital. Or someone who knows how to program computers, almost no capital beyond a laptop, just a lot of hustle.
DeleteNate,
DeleteYour comment here reminds me of Buffett's discussion of evaluating manager performance for whether their growth comes from retained earnings or increased capital efficiency...
I think Graham set a reasonable expectation of beating the market by 5%. I think he said if you can't do that then it would not be worth the effort (see page 15 of Intelligent Investor 1973 edition).
ReplyDeleteBeating the market by 5% is quite a feat, if this became a rule most of the mutual fund/hedge fund industry would have to shut down!
DeleteMaybe they should (and ins't that Bogle et al.'s point?). I think that reason for thus is the diversification mantra. Isn't diversification a substitute for ignorance? Imagine if you ran a small business this way. You only pursued all these different projects just to be diversified versus the ones that had the highest expected return. You would be called a fool and your business would not be around for long. But is this not what we do when we counsel diversification? This the reason most mutual funds fail to outperform the market. In even the mutual funds that have correct value process - how can the signal (stocks with a large price value/difference) have more than a minor impact when the weight of these stocks with signal is so small compared to who have less of a value/price difference? I think it is a mistake to think that a large number of stocks have the difference all the time (which is what diversification implies).
DeleteIf you take Buffett's advice to heart (20 punch card and all) and examine the record of the funds in the Appendix of the Intelligent Investor you will see this is true. Also, see the example of JM Keynes. I have also notices this in my portfolio performance.
What do you think is easier? Reading 10K's few hours a week, or dealing with customers, employees, suppliers, and competition while working 60-80 hours a week?
ReplyDeleteWhatever it is you are doing now, if you wanted to make 10 or 100x your current pay 20 years from now, the only favorable option is to learn investing.
-th
That's the allure right? You could either sit around in your pajamas reading 10-Ks and minting money, or running a business.
DeleteIf one were to start with $2m in capital and they could either invest it, or start a business it's a lot easier to just invest, earn a return, even smaller, rather than invest the capital and run a business.
For someone starting out with almost nothing the choice is different. One path is to take a job, save as much as possible and invest the excess. This is the conservative route that most people take, and like you said in 20 years they might have a considerable nest egg. The other option is to start a business and grow it and build a nest egg that way.
Either way it takes a certain person for each. Investing isn't for everyone, there are many successful business people who can grow a business yet make terrible investments. There are many successful investors who couldn't run a business to save their life.
Am investing because i thought it would give profit for me when the year comes..Its not so much hard to invest but have a doubt that my thought is right or wrong...
ReplyDeleteNate,
ReplyDeleteAside from the jab about avoiding bank stocks, I must say, you are a gentleman and a scholar, and I thank you for this post.
Most of the people put investment for maximizes the returns possible by taking the least amount of risk.
ReplyDelete