A Useful Set of Financial Rules

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Barry Ritholtz posted a list of investment rules by Morgan Housel from Motley Fool that I think is a pretty good list. As posted below with some of my thoughts;

1) Nine out of ten people in finance don't have your best interest at heart;

We all know that this is true in some magnitude, maybe it is eight out of ten or maybe 9.9 out of ten, but this has always puzzled me. Speaking for our little firm, the financial well being of everyone at our firm relies on how we treat our client base. It is in our personal interests to try to provide the best service we can and meet the expectations we set. New clients are not easy to come by and treating clients poorly would seem to be self-destructive but again Housel is mostly correct.

2) Don't try to predict the future;

There is a Yogi Berra quote in here somewhere. I believe this is an area where I have been influenced by John Hussman. He speaks in terms of weighing current positives and current negatives to make a forward looking analysis. I don't necessarily draw the same conclusions he does but there are things that occur in markets that indicate increased risks for a large decline. Any such indicator may be right this time or wrong this time but there are times where there is more front burner risk than at other times.

3) Saving can be more important than investing;

We've addressed the importance of having an adequate savings rate many times before along with the concept of living below your means; I believe the two are related. We have more control over how much we save than how well the stock market does.

4) Tune out the majority of news;

I would tweak this a little to say most news does not require taking portfolio action. I believe in making the effort to stay current but too many people react to news by making unnecessary trades.

5) Emotional intelligence is more important than classroom intelligence;

This probably refers to the various cognitive deficits and emotional quirks that we all have and not succumbing to them. If you can remember that every few years the market goes down a lot, for example, then you might be in a better position to avoid panicking when it happens. Many stock market bloggers devote time to help people understand and avoid this for good reason; people permanently impair their capital by being too fearful and/or too greedy.

6) Talk about your money;

I don't know what Housel means here, so I will guess that both partners in a couple need to be on the same page with financial matters. This either means that both need to agree philosophically or they need to figure out how to compromise effectively such that the relationship survives and that the financial plan has a reasonable chance of being successful.

7) Most financial problems are caused by debt;

I would broaden this out to say misuse of leverage which can include too much consumer debt and also misuse of leverage available in a brokerage account (margin debt, leveraging up with options, 2X or 3X ETFs and volatility). There have always been people who've blown themselves up this way and I suspect there always will be.

8) Forget about past performance;

This is one I mostly disagree with. In choosing an active manager an investor need to be on board with what that manager is trying do philosophically and looking to see whether the manager has generally met the expectation they have set. If they have, then the decision to hire them is a belief that the manager will continue to deliver against the expectation they set.

A manager who has a 20 year track record of mostly being very close to the market who then has one great year where he is 1000 basis points ahead of the market is unlikely to repeat that type of performance every year and so that would be a case where you would want to forget about past performance.

9) The perfect investment doesn't exist;

Well, I am aware of one actively managed ETF that lowers cholesterol and whitens teeth (humor attempt).

Any stock or fund you own that is doing well still has a bear case. When a stock doubles in a year then the bear case didn't matter while it was doubling but it was still there. Over the years that I have posted changes to the portfolio that we've made there have been comments disagreeing with the action taken at the time. If you've done the work and drawn a conclusion, have some confidence that you know what you are doing and can be right more often than not and for the times you are wrong, have the introspection to realize it and take corrective action.

This does not only pertain to individual stocks or narrow funds, it can pertain to a portfolio consisting of broad based products.

Thanks Morgan for the thought provoking list.