I don’t often write about economic matters because most people find them boring, at least until they don’t. This is probably one of those times.
I’m fascinated by markets. In the short run, they are driven as much by psychology as economic fundamentals. When the stock market is making new highs, people rush in, fearful they will miss out. Conversely, when the bottom drops out, people exit like rats from a sinking ship. This is a common but disastrous approach.
My father was a skilled investor. After graduating from college and starting my first big-boy job, he shared his plan for future-proof investing. At the time, I didn’t have any savings or investments. The plan was straightforward, with only four steps. I deeply respected my father’s financial acumen and committed to following his plan.
The plan has two baseline requirements: a sufficiently long investment time horizon and execution discipline. Because of the time factor involved, readers of my vintage may consider passing the plan down to the next generation. It might just be the most valuable gift you give your children!
With a tip of the hat to Dad, here’s the plan.
Step One: Pay yourself first.
This means that when a paycheck rolls in, the first deduction is made to a savings account. This is not a small deduction, either. Dad recommended saving 10-20 percent of take-home pay.
When I relay this point to young people, they look at me like I’m crazy! “Impossible,” they exclaim!
To be sure, things are tougher these days. Inflation has exceeded wage growth for years. Nevertheless, that doesn’t invalidate the plan. Most people spend whatever they make, regardless of their income. If the first paycheck deduction is to savings, less money is left to spend. This forces participants to live below their means, which takes a lot of discipline. MJ and I have done this our entire married life. It wasn’t easy, especially at first.
I remember a holiday staff party we hosted in our home where MJ overheard one of the attendees remark, “Can you believe the boss lives here? This house is smaller than ours!” No doubt our house was smaller than theirs, but I doubt the same thing was true for our savings account!
Step One is the most important step in the plan because it takes advantage of the granddaddy of all investment principles—Compound Returns! If a person saves 10% of their income for 30 years, their accumulated savings might look pretty unimpressive for the first twenty years until the math of compound growth has time to kick in. Afterward, account values begin to go vertical.
Step Two: Invest Every Month.
Dad instructed me to ignore market fads or what the so-called experts recommend. Instead, after paying myself first, he instructed me to automatically transfer fixed monthly sums to high-quality, low-fee mutual funds. This allows one to take advantage of the second most important investment principle—Dollar Cost Averaging.
Allow me to explain. If one invests $250/month in a $25/share mutual fund, ten shares are bought. If the share price drops to $10, twenty-five shares are bought. Conversely, only five shares are purchased if shares rise to $50. The fixed monthly investment automatically results in more shares being purchased at low prices than high prices. This is a successful long-term approach.
Step Three: Diversify
Dad was a big fan of diversification across broad investment categories. He cautioned against letting any single category dominate one’s portfolio. He was fond of a quote attributed to Mark Twain: “I’m more concerned with the return of investment than the return on investment!” Dad was not a fan of taking speculative flyers. He counseled keeping such investments small, i.e., under 5% of portfolio holdings. This prevents potential losses from becoming debilitating.
Step Four: Invest For The Long Term
Dad instructed that prudent investing requires patience. He was keen on holding high-quality investments through the ebb and flow of marketplace volatility and strongly counseled against going in and out of the market. He believed in staying the course and following the plan.
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That’s it!
As a young man, I remember thinking Dad’s investment strategy was hopelessly conservative. I remember some of the “speculative flyers” I took simply because I couldn’t help myself. Luckily, I kept them small.
Dad’s plan worked. After fifty years of investing, I would only add one piece of advice:
Everyone, regardless of their financial acumen, should hire a personal financial advisor who is philosophically aligned with Dad’s conservative approach. This is not an advisor who hawks the latest fad. Instead, I am referring to someone who takes the time to understand your financial goals, resources, limitations, and risk profile. An annual review with a financial advisor is akin to an annual medical physical. Such reviews enable prudent adjustments before situations get out of hand.
I was the executor of Dad’s estate and required my siblings to hire a financial advisor before I distributed their inheritance. They have been very grateful in the years that followed.
We have seen crazy price action in the markets recently, and I suspect we will see even crazier movement going forward. Last week, I wrote a post titled “A House Built On Rock.” The above plan anchors one’s financial future to rock.
I am grateful for the guidance provided by my father and long-term investment advisor. Looking back, our investment strategies were nothing fancy. In retrospect, they were grounded in common sense.
But as the saying goes: “Common sense is very uncommon!”
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Towards A Life Well-Lived 