Investing is a huge topic, so big I will only scratch the surface to get to a few basic principles. There are dozens of smart ways to invest, but I will focus on a few strategies tailored to taxpaying individuals, trusts and partnerships.
Most individual investors do poorly. The main reasons why most people do not successfully invest their money are: 1) poor timing and 2) the inability to maintain the strategy during down periods.[i] If you start with a good approach and stick with it, odds are really high you will do fine, maybe even well.
Before we jump into investing, it is important to note the following considerations. In my opinion, the first step to accumulating wealth is to budget thoughtfully. This means planning to spend less than you earn – every year. Secondly, it is wise to invest systematically – every paycheck, every month, and if you can, reinvest the dividends. Thirdly, diversify your investments. Have some cash, bonds and stocks – and at least a few different types of stock investments.
Investing in the Stock Market
I believe the most important consideration to establish is your investment time horizon. If you need a sum of money in three years, more money in 10 years and again in 25 years, you should establish three different accounts, one for each purpose, and manage each accordingly. Most people get derailed because they invest with a long-term horizon and find they need the money sooner – often after a market correction. This article will focus on investment strategies that are appropriate for a10-year investment time horizon, and longer.
Have an Investment Philosophy
Be among the very few investors who have an investment philosophy and who writes it down[ii]. Know what is likely to happen during market corrections and when your “style” of investing is temporarily unpopular. Even brilliant strategies wax and wane in and
out of favor, over three to four year intervals. Avoid chasing the next fad. If one is just starting out, it may be best to buy a couple of low cost index funds. It is simpler and cost effective. However, the following strategies may be appealing if you have a fair amount of money and a longer time horizon.
Market Volatility
In any given calendar year, it is “normal” for the stock market to fall 15-20%, and sometimes fall 30%-40%.[iii] When the market eventually rebounded, it historically reclaimed the losses and advanced to new highs. Sometimes the recovery is rapid and happens within a few months; sometimes it takes years. Of course there are no guarantees, but this volatility is normal, and as you will find, can be very useful for wealth accumulation.
For individual companies, it is “normal” for a stock to be down nearly 40% from its peak price in a given year.[iv] Sometimes this decline follows after a rapid ascent, sometimes after an earnings disappointment, and sometimes for no apparent reason at all. Whether you own a mutual fund, an ETF, an index fund or individual stock, this will happen to your investments. Plan on it.
Investment Policy Statement
An Investment Policy Statement (IPS) is a brief set of rules you establish for yourself to follow. You should write your IPS before you invest when there is no emotional bias of euphoria or despair, and you should review your IPS each time before you look at your investments to assess how you are doing. If you are following your own process, and things are not going well, it is almost always a sign to stick with it. A sample investment policy statement is available upon request.
Three Investment Approaches: Growth, Value and Indexing[v][vi]
Each of these approaches has subcategories, most of which are just as valid as what I am describing.
- Growth: When you invest with a “growth” style you hope that the companies have the ability to earn above average earnings over long periods of time and therefore the dividends and stock price will also increase.
- Value: When you use a “value” style of investing, you look for companies with lower earnings growth prospects and a lower relative cost. It is assumed that value investing will have less volatility during market corrections, but there is certainly no assurance that this will occur.
- Indexing: Index investing is a way to let someone else, often a committee at Standard & Poors Corporation, determine what stocks you will own. Generally, the costs of owning an index fund are lower, usually substantially lower.[vii] However, there are many ways to employ an “index” investment approach.
The avalanche of money pouring into “capitalization-weighted” funds and ETFs over the last 25 years makes this an interesting time to consider other methods. In another article I point out one way that may make more sense over longer periods of time, especially for taxable investors with larger investable amounts.
Keep it Simple
Remember: Have a sensible plan with enough cash available when you might need it and, stick with your plan, especially in times of turbulence.
Most people benefit from having a co-pilot during times of trouble. So while you are thinking about investing, also think about engaging a seasoned financial advisor to help.
Is this all there is?
These findings apply to most situations, but not to all. A body of knowledge has been gathered through thousands of interactions.
Mr. Poch advises private clients and family offices.
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The above materials and calculations were compiled from company reports, public filings, and other sources. While believed to be reliable, no representations of their accuracy can be made. The opinions expressed herein are solely those of the author and do not constitute an investment recommendation.
The views expressed herein are those of the author and do not necessarily reflect the views of Morgan Stanley Wealth Management or its affiliates. All opinions are subject to change without notice. Neither the information provided nor any opinion expressed constitutes a solicitation for the purchase or sale of any security. Past performance is no guarantee of future results.
This material does not provide individually tailored investment advice. It has been prepared without regard to the individual financial circumstances and objectives of persons who receive it. The strategies and/or investments discussed in this material may not be suitable for all investors. Morgan Stanley Wealth Management recommends that investors independently evaluate particular investments and strategies, and encourages investors to seek the advice of a Financial Advisor. The appropriateness of a particular investment or strategy will depend on an investor’s individual circumstances and objectives.
Any type of continuous or periodic investment plan does not assure a profit and does not protect against loss in declining markets. Since such a plan involves continuous investment in securities regardless of fluctuating price levels of such securities, the investor should consider his financial ability to continue his purchases through periods of low price levels.
Any type of continuous or periodic investment plan does not assure a profit and does not protect against loss in declining markets. Since such a plan involves continuous investment in securities regardless of fluctuating price levels of such securities, the investor should consider his financial ability to continue his purchases through periods of low price levels.
Companies paying dividends can reduce or cut payouts at any time.
Growth investing does not guarantee a profit or eliminate risk. The stocks of these companies can have relatively high valuations. Because of these high valuations, an investment in a growth stock can be more risky than an investment in a company with more modest growth expectations.
Value investing involves the risk that the market may not recognize that securities are undervalued and they may not appreciate as anticipated.
An investment cannot be made directly in a market index.
Investors should carefully consider the investment objectives and risks as well as charges and expenses of mutual funds and exchange traded funds (ETFs) before investing. To obtain a prospectus, contact your Financial Advisor or visit the fund company’s website. The prospectus contains this and other important information about the mutual funds and ETFs. Read the prospectus carefully before investing.
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[i] “DALBAR Study Shows Trump Rally Left Average Investor Behind” April 2017 [ii] Aswath Damodaran, “An Introduction to Portfolio Management” New York University Stern School of Business, January 5, 2017 [iii] “Volatility In Perspective” , Ed Easterling, January 2017 [iv] “Volatility of Single Stocks”, Morningstar, 2015[v] “Growth vs. Value: Two Approaches to Stock Investing” Standard & Poors, 2017
[vi] Investopedia “Index Investing”
[vii] “Mutual Funds: The Costs” Adam Hayes, Investopedia March 2017 [viii] Credit Suisse Research, “Fund Flows Into Active and Passive Funds and ETFs, US Domestic Equity, 1990-2016”, January 4, 2017, Page 13
