Posted By RichC on July 19, 2018
One of the topics of conversation for me throughout the years has been investing and trading. I enjoy the research and challenge, but having made many bad picks and mistakes, also realized just how dicey this is. This has made me sensitive when talking too specific with family and friends … even though I enjoy doing it.
About the only person I felt comfortable sharing thoughts with was my father-in-law (a photo of Fred Howard from WW2 a few years before I knew him – HA!) who made similar mistakes in his early years and adopted a more conservative approach to investing. Our back and forth in sharing research helped us build a closer relationship. It also helped that we both loved working outdoors, on houses and fixing things with our hands. He also enjoyed keeping his small business books and being treasurer for various groups — I did and do the same.
The purpose of this "canned" advice, or NON-advice, is that of pointing to the DALBAR effect. Read and use your own judgement:
Mostly, though, amateur traders fall victim to the DALBAR effect, named for the market research firm that tracks how dramatically individual investors underperform the stock market over time.
This happens because the small investor thinks he knows what he’s doing. So there’s lots of buying and selling.
The extra effort rarely pays off. Over the 20 years ending in 2017 the S&P 500 SPX — the broad index of large U.S. stocks — returned 7.2% a year. That return is on track to double a nest egg every 10 years.
In contrast, DALBAR finds, the average individual investor saw a return of just 2.6%. At that rate, it takes 30 years to double the balance in an investment account.
Given the risks, what do smart rich people actually do? The key is to lower your costs, be consistent in your investment process, and of course to save enough to build a nest egg in the first place. If you can manage that, there’s a solid middle ground between doing nothing and doing too much.
The sweet spot is what we call “portfolio indexing,” a form of low-cost portfolio management that harnesses the stock market’s propensity to rise over time and lets compounding do its magic.