Unfortunately I have not found a straightforward investor curriculum to follow to reach my goal on a straight path.* Virtually unlimited resources provide great advice, useful ideas and concrete strategies – but this is dwarfed by the amount of noise, useless and very expensive information (not necessarily because it costs a lot, but because it leads to losses) out there. I find it quite problematic that, in the field of investing, there are different schools of thought that often claim to be exclusively right and condemning other approaches as bound to fail. Quite often combining elements from different successful investment strategies will lead to superior results, even if the approaches are the diametrical opposite of each other.
A lot of the material on investing, trading and the financial news, do not have the purpose or incentive to make you a more successful investor, but are largely designed to grab your attention and to sell investment and trading products to the public.
All that is not very useful for an individual investor.
We will need to find a way to focus to succeed.
I try to keep an open mind about all possibilities to achieve high, sustainable capital growth, while accounting for the risks taken. Labels like investor or trader, technical or fundamental analysis, academic or practitioner are counterproductive because they narrow our vision and mind unnecessarily. One of the greatest advantages an individual investor has is to be able to stay flexible and unconstrained and not be blinded by ideology.
There are plenty of examples of historically profitable strategies from different realms. For example value and momentum investing (a fundamental and a technical approach) are really two sides of the same process: a medium term overreaction in the market is followed by a long term reversion towards fundamental value.
To exclude an area on the grounds of philosophy, not profitability, is – in my mind – not a smart thing to do, yet it is common practice. Few resources bring together different areas of investing and trading productively. But doing just that can cancel out disadvantages and enhance advantages of different approaches in practice, which is the essence of a good, diversified portfolio.
How to separate the wheat from the chaff?
I use a set of criteria (detailed in chapter 4) that all investing or trading ideas have to pass before being included in my investment plan. These criteria don´t judge where an idea is coming from, but are based on historic evidence whether the approach has worked in the past and an analysis of the likelihood that it will continue to do so. Are there sustainable reasons for a strategy to provide long-term superior risk-adjusted return?
Start the process from the top down, by researching ways to build a solid portfolio allocation with realistic positive return expectations – a classic buy and hold portfolio of different broad-based financial assets. Look at asset allocation models and start from there.
The more common approach is to start from the bottom up, learning how to analyze and pick individual stocks. This is more likely to lead to a ragtag collection heavily concentrated in stocks and in areas that are the flavor of the month or part of a personal interest, than to a well constructed portfolio diversified across asset classes. Loss aversion (failing to take losses early) often leads to a group of losers populating the bottom of our portfolio. These positions are deep in the red and play no constructive role. Rather they cause clouded vision and are a great hindrance to reaching a smart, profitable portfolio allocation.
Even more enticing is to start with unrealistic return goals, using the latest (day-) trading strategy. Most of the time that proves to be very costly, rather than a quick and easy road to financial independence.
Moving from a broad overview of investment knowledge to researching more specific strategies within that framework, avoids a lot of the confusion that hyped strategies or detailed security selection tends to bring.
Stopping at a well diversified buy and hold portfolio would be no bad thing at all, but limiting portfolio construction to classic allocation concepts leaves alternative return streams and diversifiers on the sideline. Many people disagree with this, so it is important to make up your own mind. It is only possible to be successful when you trust your own approach, otherwise it will go out the window at the first sign of trouble.
*Lists of the classic investment books are easily found, I usually read what most interests me at the moment and that has served me well.
continue with part 4: Criteria and examples of useful strategies