How to fail at investing

There are an almost infinite number of ways to succeed at investing.

If success is ending up with a portfolio large enough to meet your investing goals, whether that be early retirement, putting children through university, supporting family members, or leaving a legacy, there are countless ways to get there.

You can, over time, create a sizeable portfolio by using any combination of individual stocks, funds, asset classes, asset allocations, currencies, geographies, investment platforms, investment managers, financial advisers, tax wrappers, time horizons, contribution levels, and investment philosophies.

The cat can be skinned in an endless number of ways, and everyone skins theirs differently.

But although the combinations of variables for succeeding at investing is almost limitless, there are only a few ways to fail. Because there are so many ways to win, and only a few ways to lose, focusing on not losing is far, far more important than attempting to win.

If we manage to avoid losing, our chances of winning increase exponentially.

So how do we avoid losing?

One of Charlie Munger’s most famous sayings is:

“All I want to know is where I’m going to die, so I never go there.”

And that’s what we’re doing here.

Let’s have a look at how to fail at investing.

Pay high fees. High fees are like water-torture for your portfolio. Their effect is imperceptible over the short term, but over the long term their effect is devastating. After all, the amount you pay in fees is the best predictor of your future returns (see how and why in this post). For example, by switching from a portfolio costing 2% into one costing 0.3%, the result is an extra 92% in your portfolio after 40 years, assuming 5% returns per year. You could almost double the size of your portfolio by doing nothing other than reducing fees.

Take concentrated positions. There’s no faster way to lose a chunk of your portfolio than by betting a portion of it on a single position. The allure of concentration is hard to resist when it has the potential to get rich quick – but investing isn’t about getting rich quick. It’s about avoiding failure and getting rich slowly. Remember: “You can’t produce a baby in one month by getting nine women pregnant.” Don’t be like George Maddox, whose pension pot was worth $1.3m going into retirement, only for it to fall to under $4,000 in a matter of months. He had it all in shares of one company – his employer. And that company was Enron.

Have a single point of failure. A concentrated position is an example of a single point of failure. But there are other links in the chain of our portfolio. We all know to diversify by asset classes, sectors, geographies, currencies. But we should also be making ourselves bullet-proof in all the areas related to our portfolio. No amount of asset class diversification is going to save you if you hand your portfolio to an unscrupulous intermediary. For DIY investors, ensure you’re comfortable with the platform you’re using (to help assess the safety of your platform, see this post: ‘What if my broker goes bust?’). For those using intermediaries, make sure you do your due diligence before handing your portfolio over to a financial adviser/robo-adviser/investment manager.

Use leverage. There are only three ways a smart person can go broke. Ladies, liquor, and leverage. Looking back on a chart of historic returns for US/global equities, it can be tempting to try and speed up the returns of what’s been a reliably fantastic long-term investment. Don’t do it. If equities can fall 50% all by themselves, they don’t need to have their losses magnified through leverage. Nobody can withstand losing over 50% of their money.

Ignore taxes. Like paying too much in fees, taxes are another of your portfolio’s leaky faucets. Shield your portfolio from taxes by taking advantages of schemes like employer pensions, ISAs, and SIPPs. For those investments held outside tax wrappers, make sure you manage your capital gains and income taxes.

Ignore free money. Take your company’s pension match. Even if the funds you’re able to invest in through your company pension scheme aren’t ideal, your company’s contributions will completely overwhelm any sub-optimal fund choices.  

Chase performance. This is a big one. Nothing destroys returns faster than performance chasing. Whether that takes the form of pulling out of the market during a crash, piling into the most recent top performing stocks, or abandoning your chosen investment strategy, chasing performance is a guaranteed way to fail (…except if you’re a disciplined momentum investor, in which case performance chasing is what you’re supposed to be doing).

Check your portfolio frequently. This is a sure-fire route to performance chasing. The more often you check your portfolio, the more likely you are to see a holding which has recently done poorly – and therefore more likely to sell your losers. On the flip side, the more often you check when you’re portfolio’s doing well, the more likely you’ll get bored with what appears to be slow progress, and chase faster gains. Don’t try to make a baby in one month.

Search for the perfect portfolio. Morgan Housel puts it better than I ever could: “Excellent for a few years” is not nearly as powerful as “pretty good for a long time.” Average returns for an above-average period of time leads to extreme returns. Compounding is not about earning the highest returns. It’s about earning pretty good returns for the longest period of time possible.

Take too much risk. Investing too heavily in equities runs the risk of capitulating when the market falls. The worst time to discover your true risk tolerance is during a crash. Unfortunately, this is when it happens for most investors. Before investing, make sure you’re invested in line with your risk profile.  

Take too little risk. Investing too little in equities runs the risk of not meeting your investment goals. You’ll experience smaller losses when the market falls, but over the long-term you’ll be leaving money on the table by not investing enough in equities. Those smooth returns come at the price of extra years of having to remain employed, or a lower standard of living in retirement. Before investing, make sure you’re invested in line with your risk profile.  

Gamble. Investing and gambling can feel similar. Both are risky, and both can make you money. The key differences, covered in this post, are as follows. 1) The expected return of investing is positive (and increases with time), compared to gambling’s negative expected return (which decreases with time), 2) Investing is a long-term activity, gambling is short-term, 3) It’s possible to improve the odds of success with investing, but not with gambling, 4) The worst-case scenario is more favourable when investing sensibly than with gambling, and 5) Gambling is a zero-sum game, where one person’s gain is another’s loss. Investing is a positive-sum game where all participants can win.

Don’t give it enough time. Compounding is slow. And then it’s incredibly fast.

Don’t do it. The longer you wait before investing, the more you’ll have to save to get to where you want to be. The market gives free money in the form of compound interest – don’t leave it on the table.

If you manage to avoid all these pitfalls, the chances are you’ll win the investing game.  

It’s worth noting that there’s nothing in this list about avoiding an “incorrect” investment philosophy.

I’m obviously a fan of passive investing, but you can also avoid failure with an active strategy.

Equally, I’m a fan of DIY investing, but you can also avoid failure by delegating your investments.

If spending a bit more (bad) through outsourcing your investments means you don’t chase performance (good), don’t search for the perfect portfolio (good), and take an appropriate amount of risk (also good), then you’re net ahead in reducing your chance of failure.

At the end of the day, we all invest differently. But given the surest route to succeeding is the dogged avoidance of failure, by focusing our efforts on doing no harm, we give ourselves the best possible chance of success.

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Past performance does not guarantee future performance and the value of investments can fall as well as rise. The information on this site is provided for information only and does not constitute, and should not be construed as, investment advice or a recommendation to buy, sell, or otherwise transact in any investment including any products or services or an invitation, offer or solicitation to engage in any investment activity. Please refer to the full disclaimer on the disclaimer page.

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May 4, 2022 2:31 pm

As always, Occam, hugely useful. All the salient points and then some, in a nutshell – and I have certainly been guilty of one or two. Many thanks.