So, you want to learn about stocks and shares. But how are you going to do it without getting your fingers burnt? It’s actually very easy. Of course, you can do all the usual things like read the financial pages, talk to people who know more about it than you, ask advice, watch relevant TV programmes, buy books on the subject. Go ahead – you’ll find all these things invaluable. But even so, how can you be completely certain you’ve really understood everything you’ve read and heard and learnt?
Dummy runs, that’s how. Decide exactly where you’re going to put your money...and then don’t do it. Watch the markets. See what happens to your imaginary investments. Track their progress. Decide when to sell – and then see what happens to the price.
Write all this down – it’s far too easy to tell yourself you predicted something when actually you merely noted the possibility of it happening but weren’t sure if it would. Note down what you buy and when you sell and what you predict and how much money your initial imaginary investment would have gained (or lost) you.
Do this a lot. Not just one dummy run but plenty. Follow lots of companies, and keep doing it for months or years. Calculate your hit rate, your losses, your accuracy. And then, when your notes can prove on paper that you really do know what you’re doing – that’s when you can start investing for real. And even so, keep it small to begin with. It’s not the same when you’re ‘playing’ with real money and you may unconsciously modify your strategies, so carry on keeping those notes and records and don’t let yourself get carried away.
DECIDE EXACTLY WHERE
YOU’RE GOING TO PUT
YOUR MONEY...AND
THEN DON’T DO IT
RULE 55
Understand how the stock market really works
It’s simple. People buy, sell and trade investments – called stocks – that they have made in companies. So, how does it all work? And, more importantly, what works?
The easy answer to the last question is ‘Buy low; sell high’, but don’t you just know that there’s more to it than that. The question of deciding what to buy, how much to pay for it and when to buy (and then sell) has been the subject of entire libraries of books, most of them bigger than this one, and so I’ll limit my contribution to a few choice rules. The first of these is to understand the real forces at play: value and speculation.
Personally, I think economists were put on this earth to make astrologers look good, but I’m not averse to quoting them, and one of the most quotable – John Maynard Keynes – once said that the stock market is just like a beauty contest.
Now when he said that, he didn’t mean that stockbrokers should abandon their suits for swimwear and profess a desire for working with children or world peace. He was referring to a type of British beauty contest that used to be run by London newspapers, in which readers could win a prize by picking the beauty whose photograph was deemed to be the most beautiful by the greatest number of other readers. This meant that winning was not about picking the prettiest, nor even about predicting which the average reader would think the prettiest, but instead winning became a game of anticipating what the average reader would expect the average choice to be. And this, believed Keynes, was how the stock market works. Investors try to make money by buying stocks that they think other investors will want to buy in the future, and the price that they’re prepared to pay for a stock depends less on the fundamental value of the company than on their expectations of what everybody else will be willing to pay for it. That’s the essence of speculation in the stock market, and that’s why the fundamental value of a stock and its price on any given day can be so different.
Speculating on stock market movements is great fun if you want to observe mass psychology in action, but in an uncertain world it’s not the road to wealth. And it’s riskier than you realize unless you really know what you’re doing. So don’t start playing the game until you’re sure you understand the rules. But if you really want to accumulate wealth in the stock market, then here’s my advice. Get rich slowly, but surely, with value. Ignore all the noise, the clamour about what this piece of news or that piece of gossip means for a price; stay away from the ‘proven’ techniques for predicting what prices will do tomorrow based on what they did yesterday (technical analysis – don’t be fooled by the rational-sounding label, it’s irrational) and resist, please resist, the temptation to dive in and out of stocks chasing a quick buck. If you’re going to invest in shares, look for value. Look for companies whose share price doesn’t reflect their worth; look for companies that make or do something that people will find more valuable in the future; and look for companies whose value is appreciated by the investment funds (we’ll meet them in Rule 56).
Once you’ve found them, buy them and, unless the fundamentals change, buy them for the long run. Wait for their value to appreciate, and watch as your wealth accumulates.
So, to buy the right stocks, at the right price of course, don’t follow the crowd, find the value. Easier said than done, you might say, and you’d be right. It can take a lot of research, but you can make it easier if you follow the next Rule.
RULE 56
Only buy shares (or anything) you can understand
This is another Rule to engrave on your heart. Buying shares – or anything else to sell on in order to make money – is just another form of gambling. When I worked as a casino manager, it was well recognized that there was a hierarchy of casinos. At the bottom were the ones with the slot machines and noisy brash atmosphere. At the top were the gentlemen’s clubs where it was all smoked glass and diffused lighting. Gamblers of course recognized the hierarchy and felt that the latter were somehow ‘cleaner’. Similarly most people view the stock market as in some way more refined, sophisticated – and thus free of risk or odds or danger. But it is all gambling. Nothing is certain.
If you are going to gamble on shares (or anything else you want to buy and sell), then reduce the odds as much as possible and only invest in or buy things you know and understand. By doing this you eliminate a lot of the mystique which can lead you to stake more than you intend, take risks you wouldn’t normally, or be bamboozled by slick marketing spiel.
If you shop at Marks & Spencer, and you see that the new product ranges are good and that the stores are full and you hear people raving about how M&S has improved this year, then buy M&S shares. If you keep studying the stores and listening to people shopping you will quickly notice if it continues to be a good investment.
REDUCE THE ODDS AS MUCH
AS POSSIBLE AND ONLY
INVEST IN OR BUY THINGS
YOU UNDERSTAND
Just be careful you are aware whether you are buying with your head or heart. I have a friend who only invests in green companies. He swans about with an air of moral superiority. He believes he has bought a ticket to heaven by doing this. He is a gambler. He doesn’t realize this. Is he buying with his head as well as his heart? If you find investments in something you love, be clear if you are buying as an investment on business principles, or simply because you want to. If your rational market analysis says that wind farms are the future, and will be a growing industry with big returns, then fantastic, you can invest with head and heart.
If you don’t really understand a particular sector of business, and don’t intend to put the work in to get to know it well, then you’ll almost certainly be better off investing in something else. If you want to invest in shares, but don’t want to do all the homework and make all the decisions yourself, then you can use an investment fund (see Rule 58).
RULE 57
Use your head
The reason you’re reading this book is because you want to become wealthy, right? All the financial decisions you make will be geared towards generating as much money as possible. Each step along the way is just that – one more step on your wealth ladder.
So don’t allow yourself to get distracted into making decisions on any other basis than their financial merit. Make sure your head rules your
heart. That’s probably not difficult if you’re picking shares to invest in, but it can be hard when you’re buying property, for example, or if you want to buy and sell old cars or antiques or anything you have a personal affection for.
I’m not saying you can’t buy things you like – you have to decide how much of your wealth you want to enjoy and how much you’ll save for later. But where a transaction is intended as an investment, when your primary purpose is to make money, don’t allow yourself to be swayed by personal taste. If that beautiful old Series 1 Land Rover needs more work before you can sell it on than the newer Defender, and will fetch no more money at the end of it, then buy the Defender. It’s tough I know, but it has to be done.
DON’T MAKE DECISIONS ON
ANY OTHER BASIS THAN
THEIR FINANCIAL MERIT
Similarly if you’re buying an investment property, such as a buy-to-let, don’t choose a house just because it’s in an area you’d like to live in. You’re not the one who’ll be living there, so you need to base your decision on hard financial factors, not your own preference. Which property will give you the best return (after costs)? That’s all you need to know.
Look, I’m not telling you what you should and shouldn’t do on a personal level. I’m just explaining how to get wealthy. That’s what you asked me, in effect, when you bought this book, and that’s what I’m telling you. The people who get wealthiest are the people who buy with their heads and not their hearts. So you do what you like, but don’t say I didn’t tell you.
RULE 58
By all means, use the investment professionals (but don’t be used by them)
As you’ve probably guessed from Rule 55, most of those who pick their own stocks like to think that they can see value where others can’t. Of course, we don’t like to look too often to see if our track record backs that up, and I’m sure many a Rules Player has made dumb investment decisions. If you don’t trust yourself to make clever decisions every time, or perhaps simply want to save the occasional investment decision for yourself and let someone who knows more than you do take care of the rest, then it’s OK to use the professionals. But make sure you use them wisely.
Now, pay attention to this bit – it’s really, really important. First, professionals will tell you that they can take your money, invest it actively and beat the market. That they do beat the market and that they will beat the market. They may even have some colourful charts to show you how they beat the market, every year. Apart from last year of course (and that was just a blip, a short-term correction you know, everybody took a bath on that one, but next year...). Just sign here, sit back and you’ll soon be worth more than Warren Buffett on a hot streak. Sounds too good to be true? Yep, it’s wishful thinking and flawed logic in equal measures.
To put it simply, for somebody to be doing better than average, somebody else must be doing worse, and since the big firms invest most of the money in the market, who are they beating? Themselves? Right, and here’s the ugly little truth about the investment industry. In any given year, some will come out ahead and some will lose, but over the long term the market beats most of them, most of the time. Oh I’m sure many of them try hard, they really do, but in the end nearly all of them fail to grow money any faster than the market. So, don’t pay them for trying.
Ask yourself this. If, like most people, you read the brochure, listen to the adviser (who’s on a commission) and buy into a fund aiming to beat the market, what’s the one thing that you can be sure will be higher than average? The returns? Or the fees? You know the answer to that one, don’t you?
If you want help to put your money in the markets, without putting much of it in someone else’s pockets, keep it simple.
If you don’t have the time or know-how to carefully research the best active fund then follow the rule that less is more (and usually comes cheaper). Put your trust in funds that don’t charge you big fees for taking big risks with a succession of clever strategies to beat the house – pick index funds and tracker funds. Pick funds managed by people who’ll invest your money with minimum fuss and minimum fees, in a good range of stocks that replicate the market, and then go to lunch. Then you can sleep at night (or get back to reading this book) safe in the knowledge that your money is in the market, quietly working away on your behalf.
IN THE END MOST OF THEM
FAIL TO GROW MONEY ANY
FASTER THAN THE MARKET.
SO, DON’T PAY THEM
FOR TRYING
RULE 59
If you are going to get financial advice, pay for it
Boy, are there a lot of people out there waiting and wanting to give you financial help, advice, information, tips and guidance. Great – learn early on to be very careful who you take advice from if you want to hang on to your wealth.
There are two groups of people to whom you may turn in the event of needing said advice, help, guidance, whatever. First, there are skilled professionals who carry indemnity insurance so you can sue them – and expect to get a payout – in the unlikely event the information they give you is erroneous, wrong, or dangerously bad. If they stand by their advice, you should make sure provision is there so that you get paid if it is wrong. That keeps ’em on their toes. These people you pay and their fee entitles them to talk to you about your money.
Second, there are very rich people. Listen to them, unless they won their money on the lottery, inherited it, robbed a bank to get it or bought a load of drugs in Marrakech and sold them in the local nightclub (actually their entrepreneurial skills might be worth something even if their honesty or honour isn’t).
Those are the only two categories open to you. The ones closed to you include: friends and family, well-meaning acquaintances (even if they do have a quid or two of their own), TV programmes, the internet and high street banks.
You must make sure any financial advice comes from someone who carries a recognizable qualification or membership of a suitable organization – that includes the very, very rich club. Make sure you know that they know what they are doing. The textile millionaire Joe Hyman used to say that in order of honesty, the three types of bank were high street banks, mountebanks and merchant banks.
There are two types of advisers in my experience: (a) those who stop you making an ass of yourself and (b) those who tell you you’ve made an ass of yourself after you’ve done it. You want category (a). You’ll get loads and loads in category (b).
When it comes to professional financial advisers, there are another two categories: (a) those who deal with your finances and (b) those who try to sell you products. Avoid (b) like the plague.
Any financial adviser you use should be independent – i.e. they should not be restricted to providing advice from a limited range of products offered by the company they work for. It’s the difference between buying a suit off the peg – a best fit – or buying something tailor-made to fit your requirements precisely.
MAKE SURE ANY FINANCIAL
ADVICE COMES FROM
SOMEONE WHO CARRIES
MEMBERSHIP OF A SUITABLE
ORGANIZATION – THAT
INCLUDES THE VERY,
VERY RICH CLUB
RULE 60
Don’t fiddle
Once you’ve worked out a strategy, leave it alone. There is no point fiddling, you’re unlikely to make it any better, and you might make it worse. Not only that but you could incur lots of extra charges or penalties if you start changing things after a short time. You have to know when to leave things alone. It’s like the proverb: ‘Look before you leap’. Look, look long and hard. Then make your plan and take your decisions. Then leave it alone – don’t mess with it.
Looking is weighing up the odds, seeking advice, considering the pros and cons. Leaping is acting on all that information. But once you have decided to leap, get on with it. Once you have formulated your plan, your objective, your strategy, your goals and targets and ambitions and destinations, then be committed.
It is so
easy to get scared or panicky. We all fear unemployment, poverty, financial traps, falling behind, falling below, falling in debt. I’ve been there: paralyzed by fear into staying in a job for years because I didn’t believe I could survive outside it. Once I stepped outside, I survived just fine. We always do.
Plans and small fish require the same amount of cooking. Once they’re in the pan, leave them alone or they’ll fall apart. Don’t keep stirring or they’ll disintegrate. Don’t keep fiddling, tinkering, changing your mind and changing it back again. If you do keep on fiddling you may end up achieving very little and worse still you will have frittered and wasted money on early redemption charges and the like. Many investments are long term and fiddling means paying more or not reaping the full benefits.
Sure you should keep your eye on things, and on the market generally, but stick with your strategy and, having done your homework, leave as well alone as possible. Don’t panic and don’t fiddle.
ONCE YOU HAVE DECIDED
TO LEAP, GET ON WITH IT
RULE 61
Think long term
At the same time as not fiddling too much (see Rule 60), so too you shouldn’t play the short game. You have to think long term, both in your planning, and in your expectations of a return. You also have to invest for the longer term.
The Rules of Wealth Page 9