Should I Invest In…?

One of the most important things we do for our clients is talk them out of bad decisions. In life, the decisions you don’t make are as important as the decisions you do make. Like the decision not to do meth. Likewise, the investments you don’t make are as important as the investments you do make.

We were recently introduced to a 65-year-old dentist who doesn’t have anything saved for retirement. Admittedly, he spent his life keeping up with the Jones’. Additionally, he blew his entire life savings (several million dollars, he told us) on a bad investment with a friend. Very sad.

My father-in-law, a physician, told me that when he graduated from residency, the director of his program told him to “take the first $500,000 you save and burn it!” When he was asked why, he simply said, “well, that’s what you’re going to do anyways, so just get it over with.”

Doctors are big earners with targets on their wallets. For the person who needs cash for his next gig, doctors are the perfect prey. On the flipside, I think the intelligence of most doctors can hurt them when it comes to investing – they are smart people, but unfortunately many don’t know or admit the limits of their knowledge and experience in this area. And besides, who wants to admit they lack knowledge in matters of finance and economics; or worse, that they can’t be trusted to spot a good investment opportunity? That would be like my third grader admitting to her friends that “she’s just not a very strong reader.”

So inevitably we get a lot of phone calls from our clients asking some variation of the same question: “There is this really good investment opportunity that we’re really excited about. Do you think we should do it?” I should say that I admire our clients who call and ask. Wisdom, as it turns out, has more to do with our ability to seek and receive instruction than knowing all the answers. 

If you’re already bored reading this blog post, I’ll summarize my answer to the question of whether or not to invest: No. No, you should not invest in this or that. Yes, let this one go by…and the next…and the one after that. Let me tell you why…

But first, in case you’re curious, here is a small sample of some of the investment opportunities we are pitched frequently:

• Retirement homes (come on, the population isn’t getting any younger)
• iPhone apps (a recent one was pitched as “guaranteed to be the next Snapchat, only better”)
• A drive-through coffee stand with a totally different name than the existing stands
• Some new medical/dental device that will revolutionize the industry (we see this a lot)
• Real estate, real estate, and more real estate. Oh, there is no end to the examples here!
• “Something that my cousin’s sister’s boyfriend is doing; I forget what it is, but he’s ‘successful’?”

These investment opportunities often share some of the same characteristics, such as:

• A good friend or relative is either running the investment or introduced you to the entrepreneur
• There is an element of fun or excitement to the investment
• It is a local investment that you could drive by and see with your eyes and kick with your boots
• Either this investment promises huge returns or the entrepreneur just came off a big deal that yielded big returns
• Did I mention you’re excited? If hearing me say “no, I wouldn’t do that,” upsets you, then the thinking part of your brain may have already surrendered and you’re working off pure emotion – not the best way to make investment decisions!

Please note, anything listed above constitutes a “strike” against the investment. If what your pitching was presented by a family member, and you’re excited, and it’s going to be big, that is three strikes by my calculation. Yep, three and you’re out.

Disclaimer: Yes, the investment you’re pitching might be the next Microsoft and you might become filthy rich. But it probably won’t be and you’ll probably lose money.

Disclaimer #2: No, we do not earn an investment management fee on your cousin’s investment. But you should know that the only people who pitch us more than our clients are the actual people looking for investors—the same people who are asking you for your money are asking us for your money. And yes, they always offer a cut of the deal to us. No thanks.

Ask yourself: Do I want to be the next doctor to burn his money? If not, then you must establish a set of principles to govern your investment decisions. Without a firm set of timeless principles, you’ll be like the proverbial waves of the sea, tossed to and fro with every new idea. And you’ll lose a lot of money.

Principles to Govern Your Investment Decisions

To teach you everything you need to know about investing, including all the principles that should govern your investment decisions, I would need to write a book, not a blog post. Nevertheless, here are a few fundamental, timeless principles to help you navigate what have proven to be very treacherous waters:

Have a plan and follow it. When I say a plan, I am referring to two separate things:

1. A comprehensive financial plan, which focuses on the allocation of cash. What are you going to do with your cash (i.e. how much to invest, how much to pay down debt, spending decisions, tax planning, etc.)?
2. An investment plan. Yes, you need to have an investment plan, backed by a bona fide investment philosophy, that answers this question: what do we believe in regarding investing our money?

Make sure your investment philosophy is backed by time-tested academic research. If when you meet with your investment advisor (yes, you should have one), he says, “last year this fund had x% return, so we’ll put more there,” you might want to shop around. Looking at last year’s winners is NOT an investment philosophy. Do you want proof? Look here.

The fact that your rich friends are investing should give little credibility, if any, to the investment. For starters, most of the people who you think are rich are actually just good at spending money, which is easy to do. Yes, they are a financial house of cards. Second, most rich people are rich because they are good at making money, but this does not automatically qualify them as experts on what to do with their money after they make it. Yes, these two things are very, very different. Why do you think so many pro athletes go broke? If you want advice on how to make money, talk to someone who has perfected that art. If you want advice on what to do with your money once you’ve made it, talk to someone who has become an expert on answering that question.

Just because others are making money at this, doesn’t mean that you can, or will, or even should. A lot of people were making money with Bernie Madoff before that scam imploded. The same is true with every other Ponzi scheme – the first “investors” always make money.

If it sounds too good to be true, it probably is. Any fool can get lucky, but making real money is difficult. Just ask any successful entrepreneur and they will tell you that it takes a lot of toil and sacrifice to create and build a business. The sacrifice is even more important than the good idea. I’d say it takes a few pounds of hard work and sacrifice for every ounce of good ideas.

Make sure there are good safeguards against fraud and open transparency. Very specifically, we recommend you use a legitimate custodian to hold the money (like Charles Schwab, Fidelity, etc.). Additionally, if you’re going to invest your hard-earned money, you’ll want independently prepared, audited financial statements. Public companies, in which we invest and whose ownership is bought and sold on open stock markets, are required to go through rigorous scrutiny to prevent against fraud. This “red tape” is designed exclusively to protect you, the investor, and we absolutely think it’s worth it. What controls does your cousin have in place to protect your investment and to provide transparency?

Diversify. Our position on diversification has not changed: if you control the venture (i.e. your career), don’t diversify. Instead, specialize and concentrate your efforts (in other words, Michael Jordan should have never left basketball). But if you have no control, you want as much diversification as possible. In our typical portfolios, we hold over 9,000 different stocks. The 10 largest holdings make up less than 8% of the total portfolio, with the largest holding (currently AT&T), making up only 1.03%. So in a $1,000,000 portfolio, that would be only $10,300 invested in one company.

Never ever invest in anything that will give you a side job. For example, managing real estate, or running a franchise. You might say, “well, I’m going to hire a manager and she’ll do everything.” No, you don’t understand. Never ever do anything on the side where you are responsible and could be left holding the bag. Unless you’re bored and looking for a part-time job, do not do anything with an economic motive that takes time and energy—focus—away from your practice. You’ll lose money and quality of life. Every time.

Beware of investing with friends and family, especially in startup ventures. I’ve often heard the phrase, “don’t do business with family.” That isn’t always true, but there should definitely be extra caution when the venture or “investment” is with a friend or family member. Why is that? There may be many reasons, but all of them stem from the fact that in most cases the relationship prevents you from thinking or acting like a real investor. For example:

• It may be harder to be objective with family members (e.g. you may need to fire your brother, but the relationship prevents you from doing so)
• It may be too easy to let emotions and the relationship trump logic and critical thinking
• It may be too hard to give honest feedback to family members or friends

How Should We Invest?

The source of all economic growth is human labor mixed with human innovation (i.e. technology). This labor and innovation is organized into businesses. With a business as the source of growth, you can either: a) get a job there, b) buy ownership in the business (this is called “stock”), or c) loan money to the business (this is called a “bond”). There is no other way.

The Miracle of the Modern Stock and Bond Markets

Unfortunately, most modern-day miracles are unappreciated and taken for granted. Like the fact that you can pick up a cell phone and call anywhere in the world and talk to anyone, or even more spectacular, FaceTime with them (thank you Apple, AAPL). Or like the fact that you can board a plane in Oregon in the morning, and land in Atlanta that very afternoon. But these modern-day marvels that would have astonished kings of old are treated as commonplace.

Our modern system of investing is absolutely a miracle of the modern world. It wasn’t long ago in our human history that ownership of assets was reserved only for kings and their elite friends. Today, the most common among us can buy ownership of the greatest companies on earth with few mouse clicks, or smartphone taps.

To add to the genius of the modern market are the availability of incredibly low cost mutual funds. For almost free you can, even with a small investment, take ownership of not just one company, but the entire global economy. Even just 50 years ago, to accomplish this investing feat would have required both a large fortune and a horrible amount of complexity. These days, the richest person in the world could literally own their entire fortune in one brokerage account.

So the next time you’re thinking that your investments are “boring,” just stop and think a little deeper about the miracle of what’s happening, and be grateful that you’re not giving your life savings to a ship captain who has promised to take your money to buy spices in India.

Should I Ever Deviate from the Plan?

You should always be looking for new information, new truths to govern your overall investment philosophy. But a complete deviation from the plan? No, I don’t advise you deviate. You work too hard for your money and you don’t want to be the guy who burns your first $500,000, or anything for that matter. Like a galloping thoroughbred, you’ll go farther if you put the blinders on and run straight.

If you do this—stay the course—you must be prepared for the fact that you may miss out on a hot deal or two over your lifetime. If you don’t swing for the fences, you may not hit a homerun (in the case of investing, it’s more like “close your eyes and swing as hard as you can”). In either case, you also won’t strike out. You’ll need to remember that, thankfully, fortunes aren’t earned in a day or with a single investment; they are earned brick by brick over the course of a lifetime of applying correct principles.

You’ll also have to be prepared to listen to your friends’ stories of investing glory (which always seem to omit fees, transaction costs, taxes, expenses, etc.) while you reluctantly remind yourself to stay the course. Remember, everyone who returns from Vegas is a “winner,” right? Have you ever heard someone say “I just got back from Vegas and boy, did I blow a lot of money?” No, never. And likewise, you’ll never hear another doctor tell you that “I lost my shirt on that investment.”

If after all this you still want to make this special investment, I recommend you use the money you would have otherwise bet on this year’s Kentucky Derby. Any more than that and I strongly advise you to stay the course and stick to your plan.