Ten Eternal Investment Principles | all news

This summer leaves very little rest for investors. However, the time is good to review certain basic rules for saving and investing.

Principle number 1: If you want to get rich, you must invest.

Many households believe that they can support themselves financially by saving as much as possible. This is only partly true. Savings are certainly crucial, but without investing those savings, the “wool sock” accumulated over time may not be enough to make up for the lack of income from work when the day comes. On the other hand, by investing, you can create a new source of income.

Let’s not forget that inflation, if left unchecked, can significantly reduce the real value of your savings. Because of the time value of money, a percentage of your salary saved today will be worth much less ten, twenty, or thirty years from now. So it’s about investing some of your savings in financial instruments that protect against inflation (examples: stocks, gold, TIPS, etc.)

Graphics: Savings (in brown) and Investments (in white)

The first (“Savingzz”) consists of a $50,000 investment and an additional $1,000 monthly at 2% for 30 years. The second (“investing”) involves the same initial and monthly amounts, but invested in the stock markets (note: past performance is not a guarantee of future results).

Source: Wealthsimple

Principle #2: It is much easier to deal with market volatility by being careful with your personal finances.

Investing can be an exciting and rewarding experience, but it is impossible for an investor to rest easy during periods of high volatility, especially when their personal financial position is “at risk” through an investment. Then emotions can take over almost any investor.

Based on past performance, investing in stocks may seem the most attractive for most investors. But in fact, it is not suitable for everyone. Therefore, investors who are not yet in a stable financial position should avoid placing too much of their savings in risky assets, as they may be forced to sell them at the worst possible time – for example, when the markets have just undergone a strong correction – see accident.

Therefore, the dumbbell strategy is an excellent approach to limit the risk of emotions that threaten long-term investment performance. This strategy involves having little or no debt, a stable and reliable source of income (ideally several), a reserve of liquidity in case of unexpected low-risk investments such as bonds, high-quality transmitters. With the peace of mind that comes from the security of your financial situation, you can “load” the other side of the dumbbell with much riskier, high-volatility investments (example: stocks, options, venture capital, cryptocurrencies, etc.). .

Diagram: Investment strategy of “Stang”.

Source: Market Meditations – Barbell Strategy by Nassim Taleb

Principle number 3: Your investment performance will one day take precedence over your savings rate.

At the beginning of your professional career, your savings rate should ideally be as high as possible, because the earlier you save, the sooner you can start growing your investments, leading to exponential returns years later. As the graph below shows, the productivity generated by your wealth will one day become more important than the amount saved from your monthly salary.

Source: Brian Feroldi

Principle #4: What is risky in the short term is much less risky in the long term. And vice versa.

In the short term, stocks are of course riskier than cash investments or bonds. But over time, this dynamic changes. Stocks are a major driver of real capital growth because they have the potential to grow faster than inflation over the long term. In contrast, cash and bonds do not offer this advantage over the long term and face the risk of loss on a real basis (ie adjusted for the effects of inflation).

Principle #5: The pursuit of high performance comes at a price.

There is a relationship between performance and risk. In other words, risk is rewarded (at least in the long run). But there is a price that has to be paid: few investors tolerate short-term volatility and very often “break”, getting rid of their risky assets at the worst time, that is, during a crisis.

Chart: Here’s why investors should never panic. By selling their stocks at the worst times, they risk losing their best daily performance. Over a 10-year period, missing the top 10 days significantly reduces cumulative performance

Source: CNBC, BofA

Principle #6: “Dollar Value Averaging” Instead of “Market Timing”

Timing the market can be profitable for short-term traders, but it can become very difficult for an investor who does not have the knowledge, experience or tools necessary for this discipline. Can you imagine investing 100% of your assets in the stock markets at the beginning of 2008? Or is it better to wait for a crash before investing in the US market and thus miss out on all the gains the S&P 500 made during the bull market that lasted between 2009 and 2021?

One of the most effective ways to get around the problem of perfect timing is to gradually invest in the same asset class over time. In this way, you get the average purchase price for the considered time period. In the event of a sharp rise in the markets, you certainly have to face an opportunity cost (ie, the uninvested amount), but despite this, lock in a profit from a portion of the already invested fortune. In the event of a decline, you have the opportunity to enter the market at a lower purchase price.

Principle #7: A company’s fundamentals and its stock price have a very high long-term correlation.

In the short run, a company’s intrinsic value does not fluctuate as much as its stock price, of course. Therefore, price and value should not be considered as the same thing, but as completely different concepts. However, in the long run, these two directions are very clearly interconnected, as the ups and downs of the stock price are justified by the evolution of the company’s value.

Source: Brian Feroldi

Principle #8: Human nature has little control over emotions due to stock market volatility.

It is human nature to be emotional, and often these emotions extend not only to family and friends, but also to material assets and possessions. As soon as this happens, the investor is by default at a disadvantage, as he risks being driven by his emotions and making an irrational investment decision. Today, the flow of information is faster and more intense than ever, and it is common for investors to place too much importance on this isolated information, which may ultimately have little or no long-term impact on the immediate value of the business.

People are also more likely to overestimate losses than gains. Allowing all of these various emotions to drive and shape your investment strategy is not likely to end well, both mentally and financially.

An investment decision should be based on your individual opinion of the company’s current value and your opinion of the company’s potential future value. As long as nothing fundamentally changes in the company, it is important to stick with your initial opinion and monitor the ups and downs of the stock price.

Principle #9: Invest. Don’t trade.

If you could look into a crystal ball and time your investment correctly on each trade, being a short-term trader would be much more profitable than being a patient investor. Fortunately or unfortunately, this is not the case, which means that you are more likely to lose in the market by trying to find the right moment (“market timing”) rather than identifying investments that you really believe in and can keep Your portfolio for the long term.

One of the important factors for the success of an investment strategy is the determination of the investor’s risk profile. This risk profile is based on your investment objectives, your risk tolerance, time horizon, base currency, liquidity needs, taxation and certain specific restrictions. Risk tolerance is perhaps the most difficult element to assess.

A very important element: this risk profile may change over time due to changes in personal circumstances (need for liquidity, change of residence or professional situation, etc.). But it should never be changed according to the market conditions and your feelings about the latest performance of the markets or your investments.

Principle #10: Buying stocks on the downside leads to mixed fortunes.

Easier said than done. When investing, look for companies whose value is undervalued by the market.

When a stock falls, it does not necessarily mean that it is becoming less attractive. In many cases, this is a change in the market’s perception of securities. As an investor, if you believe the fundamentals remain attractive, a drop in the stock price will be a buying opportunity.

On the contrary, it happens that the title falls a priori for no reason. But some investors have identified warning signs of weakness that are not yet known to everyone. Some savers make the mistake of buying on the lower side and then realize their mistake. You probably know the famous saying: “Never try to catch a falling knife”…