by Mr. MMC (My Money Counts)
This is a 2-part series:
We invest with the expectation of obtaining an additional income or profit. Plain, simple and straight to the point. Dollar begets more dollar. Sign me up! Anything that puts more dollars in my pocket, I’m all for it – well almost anything. Expecting investments to perform and make more money is perfectly fine, but more often than not the expectation is limited only to the price of the instrument. This is what I mean by weak expectations.
It’s sexier and more attention garnering to talk about gains than anything else about investing. This, unfortunately paints a very rosy picture about investing. Which inhibits the uninitiated opportunities to better define their individual expectations before foraying into whatever type of investment suits their appetite. And causes seasoned investors, to become irrational when price moves quickly in one direction or another.
While I do not discount the importance of observing and enjoying price gains, I find the two biggest contributions to better define your expectations before investing are history and time. History, tempers the ignorant. It provides an opportunity to learn from the mistakes of others and not necessarily avoid those pitfalls, but know how best to weather them when they reoccur.
Time tempers the zealot. My favourite investment quote is from Warren Buffet: time in the market is more important than timing the market. This rings truer every moment I observe participants in the capital markets. The axiom ‘time is the healer of all wounds’ is true in life and truer still in the world of investing. Time teaches patience, if you are willing to learn.
Although price appreciation and income streams are the hallmarks of a successful investment, new investors must temper their expectations with the knowledge that these are the ends to a means. The ‘means’ of investing can be mean and unforgiving while you wait for the ‘ends’, but tempering expectations with a strict time horizon and the observation of history can make the process as smooth as possible.
Why should you invest?
Risk, is everywhere. Unless we all wake up in a perfect world tomorrow, it cannot be removed. Yet it can be mitigated. Whether you place your savings in a bank; under your mattress; in GICs; buy Beanie Babies, baseball cards, balanced portfolios, real property, or gold. Invest because you have carefully, meticulously, and diligently defined risk outside of just the product and developed clear and realistic expectations of the investment beyond the promise income and/or price increase.
Investing isn’t an easy topic to discuss. Sure we all know we should save for a rainy day. Our parents, gramps, friends, teachers, the media, blogs, etc. have told us ad-nausea why we should save. But what of investing.
That too has many a commenter with an opinion. Full disclosure: I am firmly in the “investing is good” corner of this conversation. Not because I enjoy the capital markets and its nuances or the near trance-like movement of numbers and charts. No, I like investing because if an alien asked me about the best quality of all humans, I would say: we’re all investors.
Yes the capital markets can be vomit-inducing at times, but considering the risks we all overcome on a daily basis – turn on the morning/evening news for daily examples – the gyrations of investing are a welcome escape. It might seem far fetch to say that living in Calgary and motoring to and from work in the comfort of my vehicle is anything as risky as the daily travails of a 10-year old in a war torn country. I am not.
So why do many fear investing or act irrational when invested? There are a plethora of academic research that boils it down to psychology. My non-academic observation over the years has boiled it down to two things: ‘missing’-communication and weak expectations.
This isn’t a ‘their’, ‘they’re’, ‘there’ type of miscommunication, but rather a ‘missing’-communication in understanding what ‘investing’ truly is. Investopedia defines investing as “the act of committing money or capital to an endeavour (a business, project, real estate, etc.) with the expectation of obtaining an additional income or profit.” This is a great definition of investing, but where I find all definitions fail is better communicating and having the reader understand ‘risk’.
Most financial definitions reach for the old-faithful ‘risk of loss’ definition. This, right of the bat, paints investing as some sort of exercise in gambling. Bad start. Though losses can occur in investing, the true risk of investing is ‘volatility of expected returns over the specified time period’.
I prefer ‘volatility’ because every form of saving/investing vehicle, on its own, is volatile in its rate of return and security of capital. Take the ‘safe and secure’ bank savings account; if the money is in an insurable account of a member of CDIC it is safe (low volatility of return) and secured (CDIC insured). However, this is a limited risk assessment. Although the chances a bank run happening soon is low, the risk of your ‘safe’ savings being available in such a climate is high, then there’s CDIC’s ability to make whole all depositors (currently low probability of occurring, but risk explodes if it happens). How about currency (hello Zimbabwe, Venezuela, Argentina, and other countries who had the value of their currency whittled away in a flash.) or inflation risk (outliving your money). When these are factored, having all your marbles in a savings account may not be prudent.
It’s a bit much to ask the fine folks at Investopedia to list all of the various risks associated with each type of investment, but considering this is the ‘information age’, it is quite glaring how public discussions on risk always starts and ends at ‘risk of loss’. This I find results in weak expectations when individuals decide to invest and subsequently causes irrational behaviour.
By: Mr.MMC (My Money Counts)