Here are ten investing lessons that I’ve had to learn the hard way during my career. Most of these were the direct result of making stupid mistakes or relying too heavily on formulas rather than intuition. Hopefully these will help you become a better investor and maybe even avoid some of the pain I’ve experienced along the way.
Garbage in, garbage out
Without question, the single best decision I’ve made in my professional career was to stop watching financial news networks. During the depths of the financial crisis, I came to the realization that these networks are not doing a public service. They are for-profit institutions whose singular objective is to make money for their shareholders. The overwhelming majority of their revenue comes from advertising, so they are highly incentivized to attract as many eyeballs and website clicks as possible.
But investing is boring. It just is. Economies and markets change over time, but nowhere near the speed at which they are being reported these days. There’s also no logical explanation for having this many networks dedicated to reporting financial news 24/7. I literally have no idea how the producers are able to fill the airwaves with content. But they are doing it, and that’s a real risk to investors because if this is what’s fueling investment decisions, the output will likely be just as flawed as the reporting.
Guilty until proven innocent
Benjamin Disraeli famously categorized the three types of lies into lies, damned lies, and statistics. Investors succumb to dangers hidden within statistics because they carry powerful psychological triggers. It’s human nature to assume statistics are absolute, but too many bad actors employ deceptive practices to drive agendas and others simply lack the skill to properly compile and analyze data.
Read How to Lie With Statistics, by Darrell Huff, to learn why we must take the time to question any published statistic. This book was written in 1954, but the schemes he uncovers remain prevalent today. It can be read cover to cover in a few hours and involves very little math.
My rule with statistics is simple. They are guilty until proven innocent.
See one, do one, teach one
This phrase is a teaching approach used for surgical residents. The idea is to have an aspiring surgeon observe a procedure, perform the procedure on their own, and then teach another trainee how to conduct the procedure. This process solidifies the understanding of a complex system by forcing the student to simplify and explain it to someone else. Anyone eager to truly understand investing should do the same.
Or take the time to master the Feynman Learning Technique1. Devised by a Nobel Prize-winning physicist, it leverages the power of teaching for better learning. This process converts information into knowledge like nothing else I’ve used.
Tangentially, no matter how complicated and/or intimidating the world of finance and investing may seem, nearly every concept can be explained. Therefore, trust nobody who tries to confuse you with financial jargon. Best case is they are showing off, but more likely than not, they have no idea what they are talking about.
Confidence is a critical component to success in most facets of life. But when it comes to investing, confidence is poison. It will permit behavioral biases to go undetected, make you blind to risk, and promote carelessness.
No matter how easy it feels to make money when the market is going your way, the reality is that even the most successful investors are wrong more times than right. So, do what they tend to do better than the rest – check that ego at the door and strive to be more rich than right.
Read all the time
Thanks to the internet, there are resources that are on par or arguably better than what comes out of Wall Street. But don’t just read financial stuff. Include psychology, history, and sociology because markets are accountable to Darwin, not Newton.
Meaning, markets are not bound to the laws of physics, nor do they always operate predictably. So, diversify your knowledge base the same way you would your portfolio, and never forget Charlie Munger’s advice:
“In my whole life, I have known no wise people (over a broad subject matter area) who didn’t read all the time – none, zero.”
Be careful when demand creates supply
Booms and busts will exist until the end of time, and they will always be fueled from an imbalance between supply and demand. For example, take a housing market that is so hot that prices are rising in double-digits. The opportunity to profit attracts builders to this market to create a new supply of homes. Builders get greedy and overbuild, resulting in a lot of unsold homes. They must reduce excess inventory, so one builder cuts price to lure demand. Others follow suit and prices crash.
Always have an idea where we are in any cycle (housing, stocks, energy, etc.). Once supply begins to rise as it meets the beckoning call of excess demand, take notice and tread lightly.
Know when you don’t know
Two points here. First, the next time you read The Wall Street Journal over morning coffee or thumb through a three-month-old copy of FortuneMagazine while waiting to get your hair cut, just remember that this information is available to everyone. It’s ok to read, but whatever is in that article is already known by other investors and priced into that stock. Any information “edge” versus the competition must truly be something that other investors cannot access or have missed (not easy to do in today’s regulatory environment).
Second, the sophistication in today’s financial markets is like nothing the world has ever seen. Any complex system requires generalists who can see the big picture but also specialists who focus on a specific area of expertise. Bad things tend to happen when generalists think they are specialists, so know your limitations. It’s far more effective to build a network of experts than either guess or try to become an expert in everything.
The world doesn’t end all that often
Brett Arends is a financial writer who once wrote2:
“Three simple rules will explain 99% of human behavior: (1) Most people don’t think, (2) Some people are just jerks, and (3) Everyone is selling something.”
Fearmongers that prophesize any one of the more popular financial collapse theories (like the U.S. dollar is going to crash) rarely manage money. Instead, they sell stuff like newsletters and books, and fear sells phenomenally well.
Recessions happen, stocks lose investors’ money, and economies collapse from debt. But they don’t happen that often, and those who make such predictions carry no weight with me unless they can show me a time in the past when they made a bullish call and were ultimately correct. Only then can I consider them to be impartial.
The world does not end often, so those who preach it have only one objective in mind, and that is to grow the size of their wallet.
Slow down and pay attention
I’ll never forget the first few months after the financial crisis. My Wall Street expense account flew me all over the country to meet with money managers and discuss the economy and stocks over fancy dinners. Most clients were convinced that the U.S. was doomed.
Then one day, I arrived with one of my biggest clients at the nicest restaurant in Atlanta, and the hostess told me they didn’t have a table for us. Embarrassed beyond belief, I turned to my clients and explained to them that I didn’t even think to book a table. I had been eating here for months and always walked right in.
But then it hit me. If there are this many people out spending this much money on dinner, maybe they are also spending elsewhere. The more I thought about it, the more it made sense. Airports were definitely more crowded, it was noticeably harder to find a good parking spot at the mall, and lines felt longer at checkout in most stores. These simple observations became the turning point for how I viewed the economy, and it made me realize that the pessimism priced into stocks wasn’t going to last much longer.
Fancy diplomas look great hanging on the wall, and knowing how to analyze data is a great skill to acquire. But often times the most important input to an investment process is simply paying attention to what’s happening around you.
Don’t let the market distract you
Jack Bogle founded Vanguard and famously once said:
“The stock market is a giant distraction to the business of investing.”
I constantly get asked the same two questions by both the media looking for a story and day traders looking for an edge – what is driving the market and what will it do over the next few months?
My answer is always the same to both, which is I have no clue, and if I did, I would not be answering questions from reporters. Instead, I would be shopping for an island because what’s the point of having a crystal ball if you don’t use it to make enough money to buy a utopian paradise?
However, I still watch the market closely because stocks go on sale all the time, and I love a bargain. A stock price will often fall while the fundamentals stay intact. When these opportunities present themselves, it’s fun to profit on the fear and panic of others.
Said another way, this business is more about managing risk than taking risk. Spending time agonizing over why the market is doing what it is doing or where it is going takes up a lot of time and adds almost no value.
This material has been prepared for informational purposes only and should not be construed as a solicitation to effect, or attempt to effect, either transactions in securities or the rendering of personalized investment advice. This material is not intended to provide, and should not be relied on for tax, legal, investment, accounting, or other financial advice. You should consult your own tax, legal, financial, and accounting advisors before engaging in any transaction. Asset allocation and diversification do not guarantee a profit or protect against a loss. All references to potential future developments or outcomes are strictly the views and opinions of Richard W. Paul & Associates and in no way promise, guarantee, or seek to predict with any certainty what may or may not occur in various economies and investment markets. Past performance is not necessarily indicative of future performance.