Written by: Corey Janoff
In life, people want to find the easiest way to success. Humans are inherently lazy species. How can we obtain optimal outcomes while expending the least amount of energy? That's why we buy lottery tickets, cut corners, and purchase videos like 8-Minute Abs on VHS (get a 6-pack in just 8 minutes a day!). We are no different when it comes to our investments. There are many gurus and classes out there that claim to teach you the secrets to investing. While there may be some merit to those, there are often some fundamental principles they do not teach you.
Why is that? Because basic principles are not exciting. When we want to lose weight, we don't buy the workout program that says in one sentence, "Eat more vegetables, consume fewer calories, and be physically active." That doesn't sell. We want to buy the workout program that touts looking like an NFL running back with only 8 minutes of exercise a day!
What company's IPO is going to be the next great success story? What's the next up and coming geographical hub to buy real estate? Should I "invest" in cryptocurrency? Sure, you could take a risk and get lucky. But that's probably not an advisable path for most of us.
People are constantly looking for double-top secrets to investing success because spending less than you earn and investing the difference in a diversified portfolio isn't appealing. There must be a better way to greater riches! As it turns out, there's not. However, you can implement some additional tips and tricks to enhance your probability of optimal success.
Today we will talk about some secrets to investing to help you achieve your financial goals.
1. How Much You Invest Matters More Than
What You Invest In
The amount you invest has a significantly more significant correlation to achieving your goals than in the specific assets or securities you invest. Regardless of how you invest your money, someone who invests 30% of their income for retirement is more likely to retire when they want than someone who only invests 10% of their income.
The more you save, the more margin for error you have. You can afford to make the occasional bad investment. The less you save, the more you are banking on your investments performing well, which is far from guaranteed.
Honestly, you could stop reading here if you want. Save a lot of money and life will be good.
2. Timing the Market is Near Impossible
The most popular topic in investing publications and investment news is which direction the market is heading. Is it going up? Is it going down? When should you get in? When should you get out? Is now a good time to invest? Most investment novices (and many experienced investors) believe too strongly that market timing is one of the keys to successful investing.
It is rare to find someone who is consistently accurate with active trading in and out of the market. It is essentially gambling. Even the best professional gamblers have a success rate of barely over 50%. You have to play to win the game is their motto, I guess.
When I say "timing the market," I refer to buying and selling based on a prediction of short-term market movement. That doesn't mean you shouldn't make strategic investment decisions based on the price of certain assets relative to others or their historical norms.
For example, if large US company stocks are trading at a price to earnings (P/E) ratio of 20 (above its historical average), and small US companies are trading at 12 times earnings (below their historical average), the small companies look like a more attractive buy. You pay $12 for every dollar of earnings they generate, compared to paying $20 for every dollar of earnings.
By no means does this ensure small companies will perform better than large companies moving forward, but it is a more attractive entry point that arguably has less downside and more upside potential.
You shouldn't sell all of your stock in large companies and invest it all in small companies. If you are adding more money to your portfolio, maybe you add more to small companies. Perhaps you make a slight portfolio adjustment to scale down a little on the exposure to large companies and slightly increase your small company exposure while staying within your overall investment targets. This is where having a pre-determined plan or an investment policy statement can be helpful.
3. Rebalancing Forces You to Buy Low and Sell High
Dovetailing on the previous example, regularly rebalancing your portfolio is a great way to robotically force yourself to take advantage of price discrepancies across asset classes.
When you rebalance, you trim down on positions that have done well and invest more in positions that haven't done well. On the surface, it sounds counter-intuitive – sell the winners and buy the losers – no thanks. However, investments are like any other thing you buy in life, such as groceries, clothes, or cars. When there is a sale, it is more attractive to buy.
We want to buy investments when prices are most attractive. That's easier said than done since it's tough to know whether prices will go up or down. That's where implementing a robotic rebalancing plan can help you take all thinking out of the equation. Either on a regular schedule or anytime your portfolio deviates a certain amount from your target allocation, you rebalance back to your initial target allocation.
This forces you to capture your winnings and invest elsewhere at lower prices. One of the dangers of not monitoring your portfolio includes missing out on these opportunities to buy low and sell high.
4. Tax-Loss Harvesting Can Lower Taxes Over Time
It boggles my mind how many people who manage their investment accounts have no idea what tax-loss harvesting is. This is something, especially for high-income earners in high tax brackets, that can save you a good amount in taxes in the long haul.
In short, any time you have an investment in a taxable account that goes down in value and is worth less than what you bought it for, you can sell that position and "realize" that loss on paper. Why would you want to do that?
When you receive a dividend, a capital gain distribution from a mutual fund, or sell a position again, you have to pay taxes on those realized investment gains. Well, losses offset gains and cancel each other out when taxes are due.
Investments don't move in a linear path – they are prone to ups and downs. When they go down, it's not ideal, but it presents an excellent opportunity to save on taxes. Sell the losers, capture the losses on paper, and reinvest in similar but different positions to avoid a wash sale. The benefits of the tax losses will get negated if you buy the same or an identical position within 30 days of selling. Google "wash sale" to learn more.
We don't want to time the market and get out or change our investment strategy. It is imperative to reinvest the money when you sell a position immediately to maintain your overall investment strategy.
As your portfolios get larger and larger, this strategy can save you thousands of dollars per year in taxes.
Subscribe to the Financial Clarity for Doctors podcast to learn more about tax-loss harvesting in an upcoming episode in a couple of weeks.
5. Expenses Matter, But Maybe Not as Much as the Internet Leads You to Believe
There is no free lunch, so any investment has a cost associated with it. It could be a trading fee, a bid-ask spread on the purchase/sale, or an internal fund expense to cover the fund's operating costs (typical in mutual funds and ETF's).
It is smart to reduce your costs wherever possible. All else being equal, go with the lowest cost option.
While costs do matter, don't get too hung up on them. I have reviewed investment portfolios that overly concentrated in one asset, with the only reason being that it was the lowest cost option. Saving money is excellent, but not if it comes at an added risk to you elsewhere.
Once, I was asked why we're investing in a fund with a 0.04% expense ration when there's another fund with a 0.03% expense ratio. I am all for being cheap, but let's not drive 10 minutes out of our way to save ten cents on gas.
I have a dirty little secret about investing for you – the fees aren't going to make or break your ability to achieve your goals. Due to industry regulations and the competitive landscape of businesses, today's investment costs are lower than they have ever been. Most people in their 60's to 80's right now who are successfully retired and financially independent invested for decades in high-feely managed mutual funds purchased through an expensive broker or financial advisor. Yet somehow, they still managed to make it to the finish line.
Low-cost index funds didn't even exist until the 1970s, and they have only recently gained popularity in the last 10-15 years.
Yes, the fees matter. But you and your habits and actions matter more.
6. How Much You Invest and How You React to Adversity Matters Most
I started this post with the most critical secret to investing, and I'm going to loop back to it here. How much you invest in your goals matters far more significantly than any other variable. The person who saves half of their take-home pay will be in much better shape than the person who doesn't even max out their 401k.
The other most significant variable is your behavior and how you react to adversity. What do you do if your portfolio drops in value? What do you do when you read a news headline that portrays a negative economic outlook? Do you have a written investment strategy that you adhere to, or are you just winging it? Do you have defined goals that you are investing for and have a plan in place for achieving them?
The people who try to time the market or make adjustments based on news headlines or recent portfolio results are likely to cause harmful missteps to their long-term financial picture.
Saving a lot can help overcome these potential missteps. The only time you should drastically change your investment strategy is if your goals or circumstances change drastically. Otherwise, develop a plan, stick with it, and let the rest take care of itself.
Investing involves the risk of loss, including total loss of principal. Rebalancing and tax-loss harvesting do not ensure better results or lower taxes. Consult with a licensed financial advisor before implementing or changing an investment strategy. Consult with a licensed tax professional regarding your tax implications.