Many a times we arrive at a metaphorical fork in the road, having to make a decision which way to go. Which dish to pick? which colour to choose for that bag? Which girl to choose? Which stock to buy? When to buy?
For most people it comes naturally, decision making process learnt through parental influence, informed by knowledge through education, reading, friends etc. Do we choose the decision that feels right for us or do we choose the logically, rational decision. And then do we fear the decisions we make or potential outcomes that may come out from it that would paralyse our decision making process.
The classic analogy of how making decisions can be so overwhelming is an anecdote from the film, The Legend of 1900, think Forest Grump type of biopic lifestory about a musical piano genius who was born, grew up and died on an oceanliner.
Take piano: keys begin, keys end. You know there are 88 of them. Nobody can tell you any different. They are not infinite. You’re infinite…. And on those keys, the music that you can make… is infinite. I like that. That I can live by….
You rolled out in front of me a keyboard of millions of keys, millions and billions of keys that never end. And that’s the truth Max, that they never end. That keyboard is infinite… and if that keyboard is infinite, then on that keyboard there is no music you can play. You’re sitting on the wrong bench…. That is God’s piano.
Christ, did you… did you see the streets, just the streets? There were thousands of them! Then how you do it down there, how do you choose just one… one woman, one house, one piece of land to call your own, one landscape to look at, one way to die…?
Land? Land is a ship too big for me, it’s a woman too beautiful, it’s a voyage too long, perfume too strong…. It’s music I don’t know how to make. I can never get off this ship.
-Danny Boodman T.D. Lemon 1900
Danny Boodman T.D. Lemon never set a foot out of the ship, never existed out on land before, never knew what other wonders of the world, never know what love was or wasn’t out there because of the choices and decisions that he saw faced him and it overwhelmed him in the end.
You can never make the right decision
Faced with the idea of investing, it is equally a minefield of decision making process. What to buy? When to buy? How to buy? Are FANG stocks overvalued? Is the S&P overvalued? Is value investing going to provide better returns?
The thing is we will never know until after the event has happened and when we look back in retrospect, which is not very useful. And what every responsible mutual fund would have on their prospectus is the warning that past performance is not indicative of future results. What is useful though is evaluating the reasons why things played out the way it did. History tends to repeat itself after all.
What has been shown to affect performance of a portfolio are:
- Expense Ratios
- Trading Costs
- Management Charges
Therefore, sticking to low cost index funds with a passive approach in a tax efficient strategy sounds like you might do pretty good enough in the long run.
Being Average is good enough
I used to have a friend who told me that if he had average grades, had an average girlfriend and lived an average life, he would be content enough in life. Thinking back, I thought how sensible this idea was.
The issue with chasing returns in investing through active investing is that it is a Zero Sum game. When someone in the system makes a profit, someone else has to be making a loss. (with the middle man taking his cut via the transaction costs). It is difficult to be make the right decisions again and again year after year. In fact there is evidence that over 10 years 83 percent of US active managers fail to match their benchmarks and perhaps only around 5% of managers do outperform the market for 3 consecutive years.
Perhaps for the average person investing for the long term, average is good enough after all.
Martin Lewis always had the knack of simplifying complex financial jargon and principles into bits that are easily digestible.
The Coin Bet
Say I offered you a bet on heads or tails of a coin flip.
If I win, I get £1 from you.
If you win, you get £100 from me.
We flip the coin and you lost! You lose £1 to me.
Was it a good decision (to take the bet)? Yes because there was a great potential upside to it.
But you lost £1 pound!
The crux here is that it was a good decision but the outcome was bad. The two are actually quite distinct really and we shouldn’t let the potential of a bad outcome affect our ability to make a good decision. Think of some of the decisions we make all the time that perhaps may not have had the desired outcome. Not neccessary on financial decisions, but perhaps in relationships, in choosing our habits etc. It might give us a idea of how closely related a decision is related to an outcome.
You can see the whole video of Martin’s lecture on Martin Lewis: How to teach your kids about debt here
Hope 2018 would be as kind as 2017.