In honour of the book’s 25th anniversary, this series covers the fundamental principles of successful long-term investing outlined in Nick Murray’s book Simple Wealth, Inevitable Wealth. Nick Murray is a particular favourite of ours and we crafted our mission statement based on the principles in this book. We hope you enjoy it as well.
Chapter 1: What A Financial Advisor Can Do for You, and What One Can’t
Like many things, whether or not you need an advisor boils down to if their benefit outweighs the cost. If you mow your own lawn or paint your own house, the money saved outweighs the time you spent doing it yourself. Getting dental work done by a professional is worth the cost as the outcome will be much better than if you attempt to do it yourself.
Many advertisements today paint managing your finances like mowing the lawn. We view it more like the dentist.
An average advisor (including our office) charges a fee of 1% of your assets under management each year. Nick Murray lays out three points as to why that 1% is worth it.
First, an advisor can create a portfolio and plan better suited to your long-term goals than you might come up with by yourself (or that an investing app might design for you).
Second, they can save you the time, energy, and resources that you would otherwise have spent managing your investments yourself.
Third, and potentially most importantly, they can prevent you from making expensive behavioural mistakes. Arguably the largest determinant in whether an investor is successful or not is their behaviour. Panic-selling or greed-buying at the wrong time can be detrimental to building long-term wealth.
If you don’t believe that these three points will save you at least the 1% that an advisor costs, then you don’t need one! If, however, you are like most people, the savings these points offer more than make up for the cost.
What is also important to note is what an advisor cannot do. An advisor, like anyone else, can’t predict the future. They can’t forecast the economy, the markets, or the performance of any particular investment. What they can and will do is create a plan that will carry you through the ups and downs of the unknowable future.
The last point Nick makes is that a successful advisor-client relationship is reliant on implicit mutual respect and trust. Not every advisor is a fit for every investor, so it’s important to find someone you respect and trust and who respects and trusts you in return.
This quote from Nick sums it up beautifully:
“I know two truths, and believe that they’re definitive. First, there is a qualified, caring, committed financial advisor for you. Second, the value of that advisor to you and your family—in incremental return, in mistakes not made, in time and worry you needn’t expend trying to do it yourself—will greatly exceed the cost of the advice.”
Chapter 2: An Owner, Not a Loaner
If we were to invest in a business and were given the option to loan money to the business owner, or buy a piece of the business itself, there would be some discussion about which is better.
This scenario is essentially what investing is. Do you choose to own (equities) or loan (bonds)?
Nick Murray sums it up perfectly in this quote: “Your common sense (as well as your own life experience) will tell you that it is the owners of successful businesses who achieve real wealth in this country.”
Business owners don’t borrow money unless they have a reasonable expectation that whatever they are using the borrowed money for will return profits that greatly surpass the cost of the loan. Knowing that, it seems obvious that we’d want to own a piece of that company and share in the profits.
What worries some people is that pesky word “expectation.”
We can’t know the future, and that makes investing in companies a little uncomfortable. We don’t know for sure what our investments will do. We can only base our expectations off history. Thankfully, we have reliable information going back almost 100 years to consult. As Winston Churchill once said, “The farther backward you can look, the farther forward you can see.”
Over those 100 years, owning companies provided an after-inflation return of 7% per year (please note this number is based on US equities, Canada’s number is closer to 6%), and loaning to companies returned about 3% per year. And once that number starts compounding (you reinvest your investment returns to keep growing), the gap widens considerably over the long term.
Once again, Nick’s words come back to us. It seems obvious that the way to build real wealth is to own companies, not lend to them.
However, there is one objection that we routinely run into, as Nick outlines below:
“I call this The Great American Yes, But. As in, ‘You get much higher returns from stocks.’ ‘Yes, but: what’s the risk?’ This is a fair question. Indeed, it’s even a good question. Unfortunately it’s the wrong question.”
“The right question—the only right question—is: WHAT IS RISK?”
Chapter 3: What the Real Risk Isn’t
Nick starts out this chapter by stating the main reason investors fail to achieve wealth in equities (or ownership as we discussed last week), is that they misunderstand risk.
There are two main ways we do this. By overestimating the long term risk of owning, and underestimating the long term risk of not owning. This chapter explains the first.
In this chapter, Nick defines long term as investing for at least five years or longer. Ideally, long term wealth accumulation would mean investing over your lifetime, and then thinking about it in a multigenerational way: over the lifetimes of your children and grandchildren as well.
It’s also important to note that when we refer to equities, we mean a well-diversified portfolio of companies, not just a single stock (a topic we will discuss further in later chapters).
When it comes to portfolios of equities, the longer you hold them, the less likely the whole portfolio will drop to zero. To illustrate this point, Nick uses a chart showing the amount of times the S&P 500 (an American stock exchange that is a good benchmark for US companies) produced positive returns over a certain period of years since 1926. Over a one year period, it had a positive return 75.28% of the time. Over ten years, it jumps to 94.61% and over 20 years, the returns were positive 100% of the time.
Why? Because companies will be motivated to stop the bleeding, even more than we would be. They will curb costs however they can and keep innovating to recover their losses and start growing again.
There have always been declines in the economy and companies feel it, but they don’t stay down. Though there are short term ups and downs, the long term trajectory is up.
Nick sums it up beautifully: “Let me say this once more, because it’s this chapter’s mantra: the advance is permanent; the declines are temporary.”
Every adult alive today remembers at least one major crash. But the markets recovered and have since reached new highs. That doesn’t mean that the crashes aren’t terrifying. We’re human, it’s natural to be terrified by accounts dropping and the media preaching doomsday. But the biggest mistake investors can make is to abandon the plan in these panicked states.
This is hard because losing money feels worse than making money feels good. Richard Thaler won a Nobel Prize for demonstrating this. Which explains this next quote from Nick: “The stock exchange, someone has said, is the only place on earth where, whenever they hold a big sale, everyone runs screaming out of the store.”
Nick advises us to view the declines as the sale that they are, and not as a time to sell. Because as he puts it, “…temporary decline only becomes permanent loss when you sell.”
This is where advisors become very important. Advisors are there to stop you from making the big mistakes. So when the stress becomes too much, turn off the news, look away from your accounts, and call your advisor. That’s what you pay them for after all!
In all, “what the real risk isn’t” is summed up beautifully by this quote:
“…That long-term loss of capital in a broadly diversified portfolio of high quality equities is a myth, unsupported by either logic or the historical record. In the long run, then, the risk of equities is no more or less than that the investor will panic out of them.”
Chapter 4: What the Real Risk Is
When trying to build long term wealth, Nick argues that the real risk is outliving your money.
We’ve all experienced inflation and are hit with a feeling of dread when we hear the word. We don’t have to tell you that inflation erodes the purchasing power of our dollars year after year, we’ve all lived it. So, the true risk is that your money won’t grow enough to outpace inflation throughout your life, and you will run out of money.
Nick puts it bluntly: not owning equities is fatal to long term wealth.
The average 62 year old retiring today could be expected to live to an average of 92. That’s a thirty year retirement. And, averages mean that roughly half of people will live longer, so if you’re married, chances are at least one of you will live even longer than that.
Over thirty years, with inflation compounding at roughly 3% per year, living costs will go up roughly two and a half times over your 30+ year retirement.
Thus far, equities are the only investments that have a good enough long-term rate of return to not only keep pace with inflation, but grow beyond it, allowing you to live comfortably without fear of outliving your money and leave a legacy behind.
This is countercultural and hard to accept because most mainstream advice will tell you to switch to bonds or cash in retirement, for “safety”.
To understand this concept, we have to discuss the difference between currency and money. Currency is a dollar. It’s a medium of exchange so we don’t have to pay our rent with vegetables. But it is not money. It has no inherent value, it is merely a representative of value. This is why the value of currency declines with inflation.
Nick argues that the correct definition of money is purchasing power. That is why the concept of bonds or cash being “safe” isn’t totally correct. It protects and preserves your currency—the number of dollars you have—but it doesn’t protect your money—your ability to buy what you need. In fact, it puts it at risk. As Nick puts it:
“You see, in the long run, the only rational definition of money is purchasing power. If my living costs double while my capital- and the fixed income it produces- remain the same, my purchasing power has halved. And therefore- there is no other way to look at it- I’ve lost half my money.”
If money is purchasing power and risk is what threatens purchasing power, then safety is what preserves and enhances purchasing power over time. And the mainstream “safe” investments just don’t do that.
Equities have the best return to preserve the purchasing power of money over the long term. When investing in equities, the amount of currency you will have will fluctuate temporarily, but why would that matter since currency isn’t money?
Nick poses this question:
“The choice is: on which end of your investing lifetime do you want your insecurity, so that you can have security on the other end?”
In other words, do you want to have a stable amount of currency now and a loss of purchasing power later? Or would you rather live with some short-term variation in the amount of currency you have and be very comfortable in your purchasing power for the rest of your days? He goes on to say this:
“There is no such thing as no risk. There’s only this choice of what to risk, and when to risk it.”
There is a time and a place for bonds and cash, and that is for short term savings. But when it comes to long term wealth, equities are the asset class that will truly preserve your money, with the added benefit of growing it as well!
It will feel wrong, it’s counterintuitive and counter to our nature to watch our accounts fluctuate in the short term. But, like eating healthily, or dental work, or any number of other things, the short-term discomfort is worth the long-term benefits.
Chapter 5: Behaving Your Way to Wealth
“Equities neither make you wealthy nor keep you wealthy. You have to do those things yourself.”
“The single most important variable in the quest for equity investment success is also the only variable you have any hope of controlling: your own behavior.”
These quotes by Nick make the premise of this chapter crystal clear. The investments themselves don’t determine whether we will be successful at building wealth, our behaviour does. Nick says that simply getting invested and then having the right behaviour accounts for about 90% of your total return. He estimates that the specific equities you’re invested in account for 10% or maybe even less.
The right behaviours are simple, but far from easy. This is why Nick recommends getting a good advisor to keep you on track, and including your family in the plan so you are all pulling in the same direction. The right actions can be distilled down to 4 basic moves.
Before we get to those, there are two important caveats. One, make sure you are adequately insured first. Your wealth plan needs time to work and if your time is cut short by disability or premature death, you need to make sure you and your loved ones are sufficiently covered so the plan can continue working. Two, make sure your debts (specifically credit card debt) are under control. You would be hard pressed to find an investment that would give you a good enough rate of return to beat the 20+% interest rate your credit card debt is accumulating at.
Behaviour 1: Set specific dollar/time goals. What do you want to do, when do you want to do it, and what’s it going to cost? You can’t plan toward a vague goal. Setting specific objectives tells you how far you are from your goal, how much time you have to get there, and therefore how much you have to invest every month to make it happen.
Behaviour 2: Make a specific plan for closing the gap. Using the amount of savings you already have, a reasonable rate of return, and the time period, determine how much you need to invest monthly to make it there, then set up an automatic contribution plan. Having that routine monthly contribution is better psychologically. Your brain views it like a bill and so you won’t be tempted to spend the money the same way you would be if you waited to accumulate a lump sum to invest. If the amount you can afford to invest monthly is low, don’t be discouraged, especially if you’re young. Even if the amount you invest is small, it has lots of time to grow. The most important thing is just to invest what you have. There will be times when the markets dip and you feel like you’re falling behind on your plan. That’s okay. Historically, periods of lower returns are followed by a period of higher returns, so it’s just a matter of being patient. If you’re really concerned about not meeting your goal, you can look at increasing your monthly investment or timeline, NOT changing your investments. Bailing out is almost always the wrong thing to do. Nothing is most of the time the right thing to do.
Behaviour 3: Invest the same amounts monthly, in the same funds, to harness the power of dollar cost averaging. As this behaviour outlines, dollar cost averaging is investing the same amount in the same funds every month. The principle is simple: your fixed amount of money buys more shares when the price is cheaper and buys less shares when the price is high. This automatically takes advantage of the ups and downs of the markets and reduces the need to try and “time” the markets. As Nick puts it: “Dollar cost averaging is heaven’s own market timing system for the blissfully clueless.” More importantly, it trains your brain to want market declines and view them as the sale they are. An important caveat: if you receive a lump sum you want to invest (like a bonus or inheritance)- don’t dollar cost average, just get it in there.
Behaviour 4: Begin withdrawing no more than 4% of your equity account balance at retirement. Then increase your withdrawal 3% per year for inflation. This should leave lots of room for your money to keep growing. It’s also prudent to have a few years’ worth of living expenses in a cash reserve so you can stop withdrawals from your investments if the market is down.
With that said, Nick sums up the best behavioural practices in two quotes:
“That, in turn, must lead us to conclude that the right time to buy equities is whenever you have the money. And the right time to sell/withdraw from equities is when (and if) you need the money. Beyond that… just let ’em go on growing.”
“Put your time and energy into the variables you can control, and you will—simply, inevitably—achieve and preserve wealth as we’ve defined it. Put a lot of effort into the variables you can’t control—market timing, relative “performance”—and you’ll not only drive yourself nuts, you’ll be the hare upon whom all us tortoises have the last laugh.”
Chapter 6: Getting Diversified, Staying Diversified and Steering Clear of the Other Big Mistake
As we’ve covered that choosing to invest in equities for long term wealth building and investor behaviour amount for the majority of returns (Nick guesses 90%), we can touch on that remaining 10%: what equities we should be invested in.
Before we decide this, we must accept a universal truth: there is no way to pick the right stocks at the right times. We can’t predict where an individual stock will go day to day.
With that said, we move on to the all-important factor of a good portfolio: diversification. Diversification is essentially the practice of not putting all our eggs in one basket. A good place to get built-in diversification is a portfolio of funds (for example mutual funds or ETFs) that are made up of a multitude of stocks from many companies.
Some investors, for example Warren Buffet, pick a handful of individual stocks to be invested in. This works for him, but we are not Warren Buffet. This approach focuses on the biggest thing we CANNOT CONTROL: the movement of stocks on the market.
In the immortal words of Nick Murray:
“At the end of the day, getting genuinely diversified and staying that way ensures two wonderfully complementary outcomes: You will never own enough of any one investment idea to make a killing in it. You will never own enough of any one investment idea to get killed by it.”
Nick also points out that holding funds rather than individual stocks has the additional advantage of helping us maintain the right behaviours. It is much harder to get emotionally invested in XYZ mutual fund than it is to say “I love Jeff Bezos and therefore I only invest in Amazon” when being invested in only Amazon may not be the best thing for your portfolio.
So how do we diversify? The basic answer is to invest in sectors that run on different cycles. In the investment world, that means holding some international and some domestic investments, some small company, some large company, some growth and some value.
But I like using this example to illustrate the concept: investing in only sunscreen and beach towels would open you up to big drops in price every winter and whenever there was rain. But if you also invested in snow shovels and umbrellas, you’d have a more diversified portfolio for all times of the year. In essence, all the different terms used above aim to act out this concept.
Keep in mind this will not erase market volatility. At times, everything will go down at once and that’s okay. The markets have historically always recovered from their lows, and so we expect it to do the same in the future.
You buy this diversified portfolio, and then you rebalance. This is that saying we always hear: “buy low, sell high”. In other words, when one investment in your portfolio goes up in price, you sell at a high price, earning a profit, and buy another investment that is currently “on sale” (has a lower price). It’s counterintuitive, which is why many people struggle to do it. But it is also what helps to build long term wealth effectively.
Beyond that, leave your portfolio alone. And this is where your advisor comes in. Arguably the greatest value your advisor will provide is stopping you from blowing yourself up. As Nick puts it:
“Inappropriate behaviour- not ‘underperformance’- is the ultimate destroyer of returns.”
Which leads us to Nick’s next point. In previous chapters, we talked a lot about The Big Mistake: panicking out of your portfolio in a market decline. In this chapter, Nick reveals The Other Big Mistake. Some people call it greed, others specify it more as FOMO (fear of missing out). But Nick argues that doesn’t fully explain it either. He dubs it the “Fear of Seeing People Dumber Than You Getting Rich”.
Seeing other people get lucky on whatever fad is happening at the time will make you want to abandon your plan and hop on the band wagon. Everyone is susceptible to it. We’re human, it’s going to happen. This is once again where your advisor comes in to stop you from blowing yourself up.
This chapter points us back to the point Nick continues to make: choosing equities and good behaviour is the big determinant of success, less so the specific investments.
Nick sums up his thesis perfectly in this quote:
“Note that we were never asking how to achieve the highest return, which we decided is unknowable. We asked, in effect, ‘What is the highest lifetime return an ordinary investor can achieve all but effortlessly, just by following a very few timeless principles that have always worked over the long term?’”
Epilogue: Optimism Is the Only Realism
It’s hard to remain optimistic about the future when the media overwhelmingly broadcasts doomsday. But if we look to the past, we can see how much progress has been made.
Nick starts this chapter by discussing the reality of the smartphone. We have gotten so used to them by now that we forget what an unbelievable invention it is. One smartphone today contains more computing power than all the mainframe computers on the planet in 1970. Think about that. The entire world’s computing power in your pocket. And nearly everyone has one.
We can access the world’s knowledge at a moment’s notice, and it no longer matters if we can’t read the language the information is written in. This little box that we carry around can translate for us.
This is just one example of how human ingenuity has blown expectations completely out of the water. When we’re in hard times, it’s difficult to see the good that is to come, or the good that has already happened. However, if history is any indication, humanity strives for better. And that is why this epilogue leads us to the last value Nick wants us to learn: faith in the future.
As Nick puts it: “However anecdotally, this confirms to me the two most essential truths I’ve ever learned as an investor:
That, second only to love, human ingenuity is the most powerful force on earth.
That equities are the only financial asset class that fully captures human ingenuity.
Optimism is the only realism. It’s the only worldview that squares with the relentless logic of innovation, and with the historical record.”
With all of the wisdom Nick imparts in this book, it is distilled down to three practices: asset allocation (equities are the way to long term wealth), diversification (don’t put all your eggs in one basket), and rebalancing (using the profits of some investments to buy other investments on sale).
And three values: patience (it takes time to build wealth), discipline (stick to the plan even when it’s hard), and faith in the future (believing that human ingenuity will continue to better the world).
Let’s work together.
Book Appointment
