I’m going to stick my neck out against a common shibboleth here. Compared to many UK FI pursuing people the Ermine has only a short accumulative investing life; this is because I am FI, I haven’t done a stroke of work for more than three years. Because I am earning zilch I still have a very large cash holding of several times my erstwhile gross salary. Some of this was won hard by working for The Firm, but a decent part of it was won hard by investing in 2009 and to a lesser extent in 2011, with a generous risk-free punt assisted in taking up The Firm’s kind offer of Sharesave in 2009 with both hands, yes, please, lots, and a little bit of help from ESIP. In retrospect I could have played the latter far better, but the stupid mind-games played by The Firm hammered my perspective somewhat, and I focused on pension and ISA savings.
Once I get a steady pension income I can invest a large chunk of this. However, I have a shorter investment perspective and can’t take 30 or 40 years to do it because a) I’m likely to be dead by the end of the term and b) the ravages of inflation will destroy roughly half the value every ten years at the long-run UK inflation rates. In comparison, a worker starting out now will steadily earn the money they will invest in the market.
Most of you have 30,40 years of working and investing life ahead of you. Bear that difference in mind, and remember that this is my opinion. The history of the world is littered with people honestly believing things that are totally wrong. This article is worth exactly what you paid me for it. Remember you are not me. The UK PF/FI-RE blogosphere has changed greatly in the last few years for the better with younger writers looking to escape the rat race extremely early. Most of you are young and in the prime of your working life. You are not me, a grizzled veteran with a dwindling stock of financial ammunition but a decent sized accumulated bunker where I will make my stand. Etc.
This also assumes you are looking at making money through stock market investment. By far and away the best way to make money through your own efforts is to add value through starting a business, which gives returns greatly above the return on a diversified portfolio of stocks, which are basically a secondary market for businesses other people started and sold to us all. The trouble is that the odds against success are absolutely terrible and the lifestyle isn’t that great in the early years either. Which is why most of us are (dis)contented wage slaves working for The Man. Working out whether to pay your suppliers or your fellow humans working for you when the kitty is nearly empty is a peculiar type of stress that employees just never get to experience.
Enough of this disclaimer shit, I’ve done my duty. You have been warned that this may be a total load of arrant bollocks, like anything else on here 🙂
Slow and steady investing in low cost assets is the received wisdom
Received wisdom is that to build capital in the stock market as a wage slave, save a steady amount every month come rain or shine. Do this in a widely diversified low-cost index fund for decades and you’ll be sorted. Minimise platform fees and fund fees and take advantage of tax privileged accounts where possible. Here is a decent instruction manual and here is someone living the dream.
Let’s first take a butcher’s hook at why this works for most people. Basically if you work for 20 or thirty years, then look at the FTSE100 (in practice you’d go for a wider index)
your job is now to find any start period where you are worse off at the end of 20 years that you were at the start bearing in mind that this chart doesn’t show the effect of dividend income so you need to tilt it up by about 3.5% p.a. which is the long-term average yield of the FTSE100.
But it gets better – since you are buying whatever you can get for regular lumps of cash, you buy more in bear markets, Google dollar/pound cost averaging to see how it works. Your accumulated capital is roughly doubled over a normal 40-year working life because you reinvest earnings. Although I am eternally cynical about the magic of compound interest, a doubling is worth having – it is more valuable if your earning power peaks early, which seems to be one aspect of the modern career arc compared to mine. You can simulate your odds on firecalc. I’m not going to spend any more time on talking about how great slow and steady investing is because this is about the counterfactual, for people who don’t have decades of investing ahead of them. Loads and loads of other people are going to give you that spiel, and if you have 20 to 30 years of accumulation then knock yourself out and JFDI. It’s lowish risk, as long as you anticipate there still being a global financial system in 30-50 years time. If you don’t then you have much bigger problems on your hands that fretting about early retirement, and you are misallocating intellectual and nervous capital by reading further. The fundamental win of slow and steady investing was identified many years ago by Jesse Livermore the Boy Plunger
And right here let me say one thing: After spending many years in Wall Street and after making and losing millions of dollars I want to tell you this: It never was my thinking that made the big money for me. It always was my sitting. Got that? My sitting tight!
That’s not to say the Livermore was a Boglehead, far from it [ref]Livermore was an extremely active investor, and not only that, one who favoured shorting stocks. Because stock markets creep up over the long term, you are fighting a headwind as a shorter. Livermore scored by shorting through the Great Depression :)[/ref] , but he was a shrewd operator. In general, the market goes up over the long term. Put the time in the market, and you get more of the up.
Valuation matters more for people with shorter time scales
One fellow raised this a few years ago and got continuously slaughtered for it by the cognoscenti to the extent he shows serious signs of becoming paranoid (Rob, don’t even bother commenting should you come across this tiny backwater – I thank you for your ideas which I came across in 2008 but I won’t tolerate conspiracy theories because life is too short). GIYF for readers interested in the story, the keywords passion saving will take you most of the way there. Nevertheless, if you don’t have thirty years then you should at least look at the Shiller CAPE and ask yourself if this carries no meaning at all to inform your investment decisions – Jarrod Wilcox’s overview is a good summary.
Long story short, run towards fire. Buy when valuations are low. There is a corollary that you should sell when they are high, which I don’t use, because I have come to the conclusion that I am not a good caller of the time to sell. As a result I buy and hold[ref]This philosophy inherently limits me to HYP style dividend paying shares and income versions of funds/ETFs[/ref], I just don’t sell. But I do modulate when I buy, and for the last couple of years when valuations have been high I have not committed new money into the market, I have focused on discharging capital gains tax liabilities[ref]you can discharge more CGT in bear markets because your unwrapped holdings are worth less. But that would come at the cost of shovelling new money into a bear market, so it’s better to defuse CGT more slowly in bull markets.[/ref] by selling unwrapped holdings within the CGT limit and either buying the same or diversifying into my ISA. Yes, I’m buying overvalued stocks, but on the flipside I am selling overvalued stocks so it’s a wash from the high-level view.
I can’t afford long term drip feeding, because it ain’t going to help me fast enough. I don’t have a huge talent for spotting the up and coming. But valuation has served me well three times now, and hopefully will serve me well again if the sound of distant thunder turns out to be an incoming storm.
Continue reading “Valuation matters – the dirty counterfactual to steady index investing.”