A lot of people feel they could write the book “Why do investments work for everyone but me” while others seemingly can do no wrong when it comes to investing without even trying. Why is that? Did they pick the right stocks? Time the market just right? Choose the right fund manager? Ask most people and these are the type of answers they will probably give you, but what really makes an investor successful?
At Ruedi Wealth we have been working with clients and overseeing their investment portfolios for 32 years. In that time we have found there are really only a handful key factors that determine what type of an investment experience that person had, and whether or not they were successful in achieving what they wanted with their investments.
These, in the order of importance, are:
1. Investor Behavior
This is by far and away the most important factor influencing investor success. Is the investor a patient buy and hold investor or someone who was constantly reading news articles and acting on their every emotion? When you consider the irreparable damage panic selling causes in a 2008 type situation when the market is down 40%, the importance of behavior clearly cannot be overstated.
2. Stocks vs. Bonds Allocation
The stock vs bond allocation determines the vast majority of the risk/return features of your investment portfolio. Successful investors take the time to make sure their stock vs. bond allocation gives them the best chance of achieving their unique goals.
3. Sub-Allocation
The sub-allocation of a portfolio has more to do with splitting the larger asset classes (stocks and bonds) into smaller ones and is where you make decisions like how much to hold in US stocks vs international stocks, large-cap stocks vs small-cap stocks, value stocks vs growth stocks. A lot of investors and advisors as well get caught up in the minutia of sub-allocation decisions and more or less waste their time – I think the only thing we can say about sub-allocation and investor success has to do with diversification – the more diversified the investment portfolio, the more likely the investor is to be successful.
4. Active vs. Passive Management
We find that investors tend to be more successful using passively managed low-cost index fund investments in their portfolios. Active management by its very nature results in less diversified portfolios, higher expenses, and higher turnover.
5. Everything Else
I almost don’t want to give this category its own bullet point, but we’ll go ahead and lump everything that isn’t included in one of the first 4 determinants into one group. Moral of the story, if something it is in this group, it doesn’t make a material difference, so don’t worry about it!