If I Could Give My Younger Self 1 Piece of Investing Advice, This Is What It Would Be
There's no substitute for experience, but it still helps to know some important rules of thumb.
If I could impart one crucial piece of investing wisdom to my younger self, it would be centered around the importance of diversification. My initial investment, Lucent Technologies, a spinoff from AT&T at the age of ten, witnessed a devastating 99.2% decline in value, ultimately motivating me to avoid such a concentrated portfolio approach. This experience taught me that putting all my financial resources into a single stock leaves me highly vulnerable to failure.
Research indicates that a mere 4.3% of the 26,000 U.S. stocks examined by Arizona State University contributed to the majority of wealth creation above Treasury bills between 1926 and 2016. This underscores the significance of diversification. Furthermore, extending this principle to the types of assets within a portfolio, the traditional 60/40 stocks and bonds split remains timeless, as bonds can often offset stock performance under certain circumstances.
Today, adding cryptocurrencies to a portfolio further diversifies beyond traditional assets. A 2014 J.P. Morgan study revealed that 40% of stocks in the Russell 3000 index from 1980 to 2014 experienced catastrophic losses, defined as a decline of 70% or more with little recovery. My own first investment, within the telecom sector, had a catastrophic loss rate of 51%.
The mental aspect of investing is also critical. Expecting every stock to succeed is unrealistic, yet investing necessitates a rational optimism in each investment decision. Failure is inevitable and far more common than success in investing. Acknowledging this inevitability and learning to handle defeat constructively can significantly enhance one's investment journey.
When an investment underperforms, it's essential to diagnose the root cause - whether it's due to bad luck, poor analysis, or something else - and then rectify the situation before moving on to the next opportunity. Repeating this process is key to improving investment outcomes over time. Furthermore, studying past stock market crashes can provide valuable insights into the normalcy of market downturns.
Reflecting on my first investment, I would advise my younger self to develop a basic investment thesis at the outset. When considering a stock, I'd suggest writing two sentences: one outlining what the company sells, to whom, and why they buy it, and the second explaining why its profits should grow in five years. Although this approach might not have prevented my investment in Lucent, formulating such questions, even at a young age, would likely have led to a more sophisticated investment process moving forward.
The motivation behind investing in stocks lies in continually refining one's approach, and this is the essence of successful stock investing.
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