Monevator » 5 top monevation

Coping with the guilt of losing money

The Investor — Mon, 09 Feb 2009 11:20:55 +0000

It’s normal to feel frustrated, angry or even foolish when you lose money on your investments. But what about guilt?

My portfolio’s fall from its peak value in summer 2007 to a low in October 2008 represents a big loss for a 30-something private investor like me: at least a couple of years of after-tax income in cash terms.

More importantly, the losses meant I had fewer options in October 2008 than the year before. I’d originally begun investing to build up a house-buying war chest for when the over-valued housing market corrected itself. After several years waiting, house prices were finally falling, but my investments had fallen further.

It was my sister who put it simplest and best, when I explained to her my fate:

“Ah, I see. If only you’d sold all your investments and put the money into a savings account! Now you’d have even more money, and you could buy a cheaper house.”

My sister was a 100% right.

Being told what I did wrong by my sister, who takes no real interest in money, might have hurt my pride. But then my emotional state has taken several turns during the bear market. I’ve felt:

Frustrated: After half a decade of waiting for property prices to fall and saving as much as 50% of my annual after-tax income, I’d thrown away my ticket to the ball.

Angry: At the world, and at the markets. What were the chances of a once in a hundred year credit crisis coming along just when I was finally getting ready to buy a house?

Foolish: If I’d thought property prices would fall so far, how could I have missed the connection with the stock market? Wishful thinking, perhaps?

Guilty: My family background is not a wealthy one, and the money I’d lost was modestly substantial – more than my parents’ life savings. What was I thinking playing roulette with the market and exposing myself to such losses?

Despite these churning emotions, I didn’t sell up in despair. Instead, I kept buying while shares were cheap. I did what history and the likes of Warren Buffett say you should do – hanging in and even buying when others were fearful.

Time will tell if this faith in the stock market simply compounds my losses or leads to a recovery, but I’m glad I’ve stuck to the rational line.

Here some tips that might help you if you’re also feeling guilty or giving in to bear market despair.

1. Don’t take it personally

The stock market doesn’t know or care that I was saving money for a house, or what I’d given up. The world is a billion times bigger than our own investments, and our good or bad decisions. Market declines of 40% will leave anyone’s portfolio battered. A bear market is not your fault.

2. Accept declines are as inevitable as gains

I did very well from my investments between 2003 and 2007. It’s hard to know how well exactly because my record keeping has always been poor (an error in my investing) and also because I kept putting new money into the market in the early years, then stopped when I began a new business in 2006, making year-on-year comparisons difficult.

I’d estimate I doubled my money. And it would be naive of me to think that I’d found a rigged fruit machine that would spew out money in the good times then flash a red warning signal before the money stopped and the local muggers arrived to relieve my wallet.

According to Chris Dillow in a January’s Investor’s Chronicle, the 32% inflation-adjusted fall in UK equities over 2008 was neither unusual nor surprising:

Let’s put it another way. Before this year, the average real return on equities since 1900 was 5.3% a year, with a standard deviation of 20.1 percentage points. Which means our 32% loss is a 1.86 standard deviation event – the sort of thing that should happen, if returns are normally distributed, 3.1% of the time.

But a 3.1% chance is not a freak event. In normal times, when annualised volatility is around 20%, a 1.86 standard deviation daily loss is a fall of 2.2%, equivalent to a 100-point drop in the FTSE 100.

No one would think that a freak event. So why should anyone thing this year’s 32% real loss is? In terms of standard deviation, they’re the same thing.

The reason we’re surprised by big falls is, of course, timescales.

Over the long-term a 32% loss in a single year might be expected, but you’d still only expect to encounter less than half-a-dozen instances in even a long-lived investor’s lifetime. And by the time we’ve understood the lesson, the good times have begun to roll again and we’re tempted to dismiss the big falls as freak events.

But they’re not. Steep stock market drops are part and parcel of investing for stock market gains.

3. Hindsight is the greatest investor

Back to my fruit machine and its red light. Perhaps you think you saw the red light flashing? A few people did.

Given my conviction that the housing market was over-valued, for instance, shouldn’t I have seen that a debt boom had inflated company profits, so that even if shares looked reasonable value on a price-to-earnings basis, the earnings side of the equation was dangerously inflated?

Stocks were more expensive than they looked: surely I should have seen that?

Maybe, but beware hindsight. For instance, when I pointed friends to my post saying it was perfectly rational to take money out of Northern Rock, the UK bank that went bust in Summer 2007, some said I was crazy.

They told me banks didn’t go bust in Britain in the 21st Century. It’s only after 18 months of relentless bad news that such a view seems dumb.

What I should have done is diversified my portfolio better; in particular, I should have moved a portion into government bonds. Not because I could tell the market would fall and bond prices would rally, but because bonds looked reasonable value and I was massively exposed to stocks.

But why were bonds cheap? Because investors feared inflation. Remember the rice riots and the tortilla wars and oil at $145 a barrel? Would you have bought fixed interest on a 5-6% yield, with inflation approaching 5%? Most of us didn’t, which is why gilts and US treasuries were available at what now looks a great price. This was before the financial crisis, and before the recession, remember. Again, beware hindsight.

The truth is I made some good decisions, such as selling most of my banks, and some bad decisions, such as not putting the proceeds into cash.

4. If you can afford to, buy more shares

I won’t labour this point as I’ve written about the benefits of buying in bear markets several times in the past 12 months:

The key here is that you will feel a lot less terrible when your shares are falling if you know you’re also getting to buy good companies at great prices.

If I had moved more money into bonds back in summer 2007, I’d have been able to re-balance my portfolio again as the stock market fell, moving some money back over from bonds into equities at cheaper prices.

Such asset allocation is definitely on my ‘to master’ list ready for when the next bull market gathers steam.

5. Treat it as a learning opportunity

Asset allocation isn’t the only thing I’ve learned the value of in the past 12 months. Investors in this bear market might be hurting in our portfolios, but we’re receiving priceless experience by virtue of our ringside seat in financial crisis.

Much as I am aware that hindsight is a great investor, I also think it can be a good teacher; I don’t intend to make the same mistakes twice.

A few obvious lessons from the credit crisis:

Beware opaque products: I’m thinking of Bernie Madoff’s hedge fund, or the apparently safe structured products from high street banks that depended on third-parties – such as venerable Wall Street institutions – not going bust in order to honor their obligations.

Higher yield comes at a cost: Even higher interest rates on a simple savings account usually comes at a price, in terms of access or protection. Just ask investors in offshore banks that have gone bust who are still waiting to see if they’ll receive compensation.

Things can always get worse: In March 2008 people were already calling the credit crisis unprecedented, but the crisis got a lot worse as the year wore on. I’m relatively optimistic about the markets from these levels, but I concede the bear market could be far from over.

Don’t let returns derail your strategy: I first invested money in order to build up a house deposit. This was already a risky strategy given that I’d need the money in the medium-term, but as the medium-term became the short-term it bordered on foolish. I should have taken a large portion out and put it into cash, instead of hanging on for even better returns.

The bottom line: Know why you’re investing, and don’t let gains as well as losses upset your path.

I believe you shouldn’t feel guilty about feeling guilty when looking at your portfolio – we humans are emotional creatures. But then close down your browser, turn off your PC, and take a walk until you’re ready to invest with your head, not your heart.

Further reading:

The really obvious thing we all forget when borrowing money

The Investor — Fri, 23 Jan 2009 09:30:13 +0000

Have you ever wondered who you’re borrowing money off when you go into debt? If you think you’re being given money by a bank or credit card company, think again.

In this post I will explain in one sentence who is really lending you money when you borrow.

The rest of the article will explain why it costs you more than you might think to take it.

Borrow now, and have less later

Loans, mortgages and credit cards are mechanisms by which you can borrow money. They don’t give you a dollar to spend.

So where does the money come from?

When you borrow money, you’re borrowing from your future self.

Loans and credit cards turn the impossible into reality, taking money you’ll have in the future and giving it to you today. It’s an almost magical process that clouds where the borrowed money comes from, and what it actually costs.

Let’s say you want to buy a new computer. You have three choices:

Save up to pay for it
Borrow the money
Steal the money, or the computer

Option 3 is the cheapest, but it has unpleasant practical, moral, and religious side effects.

Option 1 requires you to live within your means, save the difference, and delay owning a PC until you can afford it. You may even buy a cheaper PC so you can own one sooner.

If you don’t like waiting and you don’t like compromise, you’ll probably go for option 2. In some households, option 2 is the standard choice. Such people regularly borrow money to buy everything from the groceries to holidays.

Borrowing might be done via:

A credit card
A personal loan
Adding to the debt in your mortgage
Using a doorstep lender
Buying through a hire/purchase arrangement, perhaps with an interest-free teaser

All these options have advantages, costs and consequences. Smarter borrowers shop around for the cheapest method. Others take the first loan that comes along. Finding the cheapest way to borrow is a subject for another article.

The key point for now is that all these methods have the same common structure:

You borrow money
You must repay it

Notice it’s all about ‘You’. The agreement may be with American Express or Barclays Bank or whoever, but it’s you who has to repay it. After the advertisements have been forgotten and the repayment is just another line in your monthly statements (and the PC won’t run Sim City 7000 or whatever we’re up to by then) i), you’ll still be liable for your debts.

And where will you get this money? From your future self.

A study in borrowing from myself

I first realized the concept of borrowing from my future self when I was a student. My family was by no means rich, but my dad earned too much for us to qualify for the full student grants for university that were available then to pay for higher education costs in the UK.

As a result, I had to make up the difference by taking out a student loan.

This government loan was a great deal, with a very low interest rate. Better still, I didn’t have to start paying back until my income surpassed a certain threshold. I actually managed to save some of the loan for a while due to the perks of writing for the college magazine keeping my extra-curricular costs down.

Fast-forward a couple of years, by which time I’d left college and was into my first job. After just a few months, I got a pay rise. That was the good news. The bad news was the increased pay triggered the level at which my student loan had to start being repaid.

I can’t remember the exact figures, but basically I was worse off after the pay rise because I’d only just gone over the payment threshold! It was not the most motivating payslip I’ve ever received.

My student self had made my working self poorer by borrowing money.

Of course, my student loan had been spent buying an education that made me more employable. Overall, my future self got a good deal. But this isn’t the case when you’re buying material goods or paying for transitory services using debt.

Borrowing from a poorer, future you

How much money are you taking from your future self when you spend his or her money today?

Unless you use the loan to invest in education, a profitable business or an appreciating asset (such as a house over 25 years), your future self will have less disposable income to spend on things because of your decision to borrow now. Your future self will go without the money you spend today.

Of course, it’s worse than the initial cost. Your purchase today via debt will incur interest. Depending on the interest rate you’re charging your future self – via your credit card or bank loan – you could spend anything from 25% to 100% more by buying the item today, instead of waiting until you can afford it.

In fact, debt is even worse than that! Imagine that instead of going into debt, you lived within your means, saved up for the things you really needed to buy, and invested the excess instead.

Now your future self isn’t just poorer due to the cost of your debt-fueled purchase and the interest on the debt – he or she has also lost the cash you’d have amassed thanks to compound interest building up your savings.

See my article on why you should stay out of debt for cash illustrations of these costs.

This isn’t some abstract person we’re talking about. If you go into debt now, the living, breathing you of tomorrow will look at their bank statements or face unexpected urgent costs, and have less money to spend. One day you’ll retire with less money, if you borrow to buy depreciating assets today.

You’re really sticking it to your future self by borrowing. You’ll be poorer, less able to live within your means, further from financial freedom – and probably lumbered with an old PC that needs to be replaced.

Save now, spend later

Some readers will find this post trivially obvious. If that’s you, I’m very glad to have you reading my site – please do stay in touch for my other personal finance and investing articles. (Here’s one on potentially profiting from mortgage debt).

I know from experience that other readers though will find it a revelation when they grasp their debts are funded by themselves and nobody else. That’s not surprising: The entire financial service industry tries to confuse us into thinking money is cheap and to distract attention from who really pays. The 2007-2008 credit crunch is testament to that.

If the concept of borrowing from your future self is new to you, I hope it’s an empowering idea. Once you grasp that you’re only making your future self poorer by going into debt now, then good consequences follow: you’ll live within your means to avoid debt, you’ll start to see your savings grow, and you’ll have compound interest building up your wealth rather than making you poorer through interest increasing your loans.

If you’re 99-years old and still saving, it may be time to start spending. There comes a time when your future self has to give something back. We don’t last forever.

But in your twenties, thirties, forties and even fifties, you owe it to your future self not to leave him owing you.

Further reading:

Why you must get out and stay out of debt

The Investor — Thu, 06 Dec 2007 11:50:57 +0000

Your debt makes other people rich. You’re borrowing from your future self, who will be poorer, less secure, or lead a less abundant life because you wanted something now, before you could afford it.

You must get out of debt. You can’t save while you’re in debt, and it grows like a weed. Kill it!

Avoid debt like the plague

The only good debt is debt taken on for investment. In personal finance terms, that means an affordable mortgage to buy property for the long-term.

We all know what bad debt looks like:

Excess clothes piled up on store cards.
A loan taken out to fund a holiday.
Flashing the plastic to keep up with your mates.
The last week of every month’s expenses being put on a credit card and never actually paid off.
Sundry pointless items bought on the ‘never never’ as our grandparents wisely called what we call credit.

Bad debt – non-mortgage debt – will make you poor if you’re not doing very well already, and it will stop you becoming rich if you are.

Too extreme, you say? Everyone has debt – surely millions can’t be wrong?

I disagree. The popularity of debt is down to:

Emotional marketing by retailers to persuade us that we must have things we never knew we needed and most probably don’t.
Emotional marketing by financial firms, who tell us we can have anything we want – now.
People being too impatient nowadays to save for anything.

I know I sound old-fashioned, but we need to relearn some old ways of thinking.

Financially, borrowing to consume makes no sense to me, whatever economists tell you about balancing ‘consumption over a lifetime’ or similar wealth-sapping baloney.

Debt makes everything much more expensive.
While you’re paying off debts you’re not saving and investing.
Debt saps your efforts to make more money.

Remember, you’re not getting anything free when you buy on credit. You’re only borrowing from your future self, who will be poorer as a result.

The bottom line on debt. Don’t do it.

Get out of debt, and stay out of debt. You’ll earn money instead of paying it, you’ll end up richer instead of poorer, and the only possible downside is less hours spent with bored 17-year old staff at your local retailer, if that happens to be your hobby – at least until your savings have caught up.

My guess is when you’ve got the money in the bank you’ll not want to spend so much on pointless gadgets and gizmos.

I’ll discuss how to get out of debt in detail in a future post.

The short version:

Cut up all your cards to avoid getting new debt.
Target the debt on the card with the highest interest first.
Find more money: Sell unwanted stuff, do overtime, go busking.
Pay as much over the minimum as you can each month to clear the card.
Move on to the next card, and clear that.
Consider shuffling debt onto 0% interest cards only if you’re sure you’ll keep up your repayments.
Avoid falling for any debt settlement scams!

Please do subscribe to my feed to get the long version when it’s written, and do point out this article to any relevant friends. You might save a life!

Further reading:

What everybody needs to learn from recent immigrants

The Investor — Tue, 11 Sep 2007 13:00:49 +0000

What’s the best use of a newly-arrived immigrant?

Someone who can help you earn more money by motivating you to increase your income?
Whipping boy for nasty politicians?
Cheap painter and decorator?

While I’ve nothing against you doing up your house, I vote for option one: earn more money!

Putting aside the difficult political issues, I find it inspiring that someone will leave their home, family, friends and even their language to pursue a better life.

Even more so when they do it illegally, often at great peril. I don’t say it’s right, or that the rich countries of the world can absorb unlimited newcomers. Only that it shows what some people will do to change their lives.

Be inspired by a funny-sounding schoolkid

Who’s more inspiring: a 30-year old banker who takes a year off to do an MBA, or a Slovakian schoolgirl who comes to London with a backpack, a tatty phrasebook, a phone number of a cousin and a willingness to really try – and maybe send money home?

Both are laudable, but it’s the Slovakian girl who isn’t getting the respect she deserves.

Compare her adventure to the millions of people in rich nations who languish on benefits rather than moving to the nearest big town to find a job in order to earn more money than they get on the dole. These people surround themselves with negative thinkers who comfort each other with old lies, rather than challenging each other to aspire to something better.

I don’t say it’s easy. Whatever the self-improvement gurus say, it’s very difficult to commit to changing your life. That’s why it’s so inspiring when people do.

You can’t earn more money by staying the same

Immigration is a hot topic. In Britain, the opening of borders across the European Union has made legal what was already a steady stream of clandestine newcomers, often to the disquiet of the press and locals. Even in the United States, Canada and Australia – countries founded by recent waves of immigrants – there are calls to pull up the drawbridge, or to at least to put up more fences.

You can see both points of view. On the negative side, there’s the fear of an established way of life being altered, as well as increasing demands on local resources.

On the other hand, there’s the human empathy for someone trying to make a go of his life, as well as historical precedents that point to immigration being good for everyone. (I owe many foods I love – chicken biryani, baklava, baked cheesecake, sushi and Singapore fried noodles – to immigrant kitchens).

But there’s more that foreign-born neighbours can teach us than how to cook vegetables. I’m thinking of their decision to change their lives, leave things behind and start again. To say “Sod it, I can do better than this and I will”. To dream of making a million. In Nike’s terms, to Just Do It.

I’m writing this mainly with the Polish in mind, as they’ve been the most visible here in London recently, but I’ve seen exactly the same phenomenon in California hundreds of times over the years.

Immigrants take the jobs we hate to do

You only have to spend a day in Los Angeles’ better restaurants or hotels to wonder if anyone trying to keep the Mexicans out has a grudge against the city.

Like the Poles in Britain, in L.A. it’s Spanish speakers who keep the city moving: they pour your coffee, make your bed, serve you breakfast, retrieve your car from the bowels of the hotel, and they’re the only people you see tending to the lawns and gardens of Beverley Hills and West Hollywood as you drive (or more likely sit in traffic) downtown.

“They’ve taken our jobs,” some complain, and while that must be correct on one level, the fact is the jobs were there for the taking.

Like London’s mayor Ken Livingstone, I can’t recall ever being served in Starbucks in London by a native English speaker, despite the high level of unemployment in the capital. The UK has a minimum wage policy, remember, so these immigrants aren’t undercutting the locals.

What the baristas and waitresses are doing is more subtle than stealing jobs – they’re over-delivering.

They’re more polite, efficient, timely, happy, and they dress smarter.
They’re flexible and easier to hire.
They’re pleased to have a job.
They don’t want handouts.

London has some of the worst pockets of deprivation in the country – just as it did before the recent waves of immigration (500,000 Poles have come to the UK, most to London) and it will continue to do so, unless the native born unemployed decide to learn from those serving their pints instead of moaning about them.

Building an income

It’s true that the Polish have probably brought down earnings for some, such as those in the building trade. But I’d argue the result has been more building and renovation, which has helped keep London’s property boom going on for longer than anyone expected.

What’s more, the smart thing to do as a UK-born builder would have been to hire the Poles, and so reap the benefits.

From my office in the suburbs I can see no fewer than four houses being worked on by Polish teams – down from a peak of six in spring! I can always hear banging, sawing and drilling.

They never seem to stop working while they’re on the job.

The UK rewards those who want to earn more

Do these Polish newcomers love Britain more than Poland? No, not those I’ve spoken to (we’ve had our kitchen and our bathroom revamped in recent years by Poles, and I’ve quizzed them).

The thing they love about our way of life isn’t the BBC, the pubs or even the football, and it certainly isn’t the weather. (They’re not mad on tea, either.)

Is it the money? Yes, of course, but there’s plenty of other rich countries in Europe.

What they like about Britain is their freedom to earn money how they choose; the speed with which they can start a business; the lack of hurdles and hoops to jump through. In short, the oft-derided and taken for granted ‘go getting’ culture that’s particularly seen in London.

The liberal British press has always had a tolerate/hate relationship with capitalism – enough to make the tabloid’s stance on immigration seem positively Christian. Yet somehow the message has filtered through to Poland and Slovakia that Britain is a country of opportunity.

Mostly those who’ve taken the plunge and come to the UK don’t say, “We are very lucky to come here and scrounge from you stupid, lazy rich British.”

They say, “You British are very lucky to live here, to be able to make such money.”

They’re on a mission – the kind that happens when you decide to reinvent your life and choose your own path.

People always write about the immigrant’s difficulties – the crowded living conditions, the loneliness, the difficulty of finding good pierogi (clever locals look for opportunities to make money from the Polish market).

But you know what? I reckon many of these immigrants are having the time of their lives. They’re young, free and single, they’re working hard and they earn more money than back home in a comradely community. They’re also learning a lesson – that you don’t have to settle for less, that you can change things – that they’ll remember forever.

In short, they’re having an adventure.

I know my life could be more adventurous – it’s too easy to get stuck in a routine.

Could yours? Ask an immigrant.

Further reading:

Learn how to get rich from a video game

10 good reasons to retire early

The Investor — Sun, 02 Sep 2007 22:15:21 +0000

Most of us grow up being taught that work is a healthy, natural thing. And to an extent it is – especially if you’re on the receiving end of someone else’s labour.

It’s also undeniable that periods of high unemployment have blighted generations, leaving entire communities such as Britain’s former industrial heartlands in Wales and the North drifting for generations when the work went away.

So if work is so important, why give it up?

1. Most of us don’t enjoy the work we do

We might get some vague sense of satisfaction from playing a productive role in society, but Monday mornings are too often painful, and Sunday nights are bittersweet. If you spend the day clockwatching, you should certainly also be wishing forward your retirement date.

2. There’s more to you than your career

Remember when you were a kid, when you made friends easily, were interested in everything, and struggled to learn the clarinet? Was it growing up and growing old that did for your sense of possibility? Or was it more the rigid routine of the 9-5? (Or the 9-6, or 9-7, or 9-8?). Get your sense of wonder back.

3. It’s a big world out there

How much have you seen? And are you really seeing it at its best in just two weeks on a whirlwind luxury eco-tour that you’ve barely relaxed into before you have to go back to the office to pay for it? You might have to rough it if you retire early, but you’ll also have more time to enjoy the view.

4. You can work at something else

Most people can think of a job that they’d rather be doing during work time. What would you actively value and enjoy? Marine biologist? Dog walker? Artist, busker, small business owner, primary school teacher, surf instructor?

“Nobody on their deathbed says, ‘I wish I’d spent more time at the office.”
– Anonymous (but they’d be welcome around these parts)

Many high-flyers don’t do these jobs because they can’t get what they want on the salaries. But if you’re retired with an income, what do you care about the pay? (Actually, even a modest part-time salary will really help with a comfortable retirement, but that’s for another day).

5. You can do good deeds with all your free time

Lots of charities, political groups and fledgling businesses are short of the skills and manpower needed to make a difference – and that’s a real difference, that impoverished people and places will feel better for. If you want to, you can help one that’s close to your heart.

6. You’ll probably have done enough for your kids

By the time a child leaves university, the average middle-class parent has lavished a six-figure sum on raising, educating and amusing them, not to mention keeping them clean. Then they ask you for a house deposit. Fine – you love them and they’re worth it. But should you keep working for them until you drop?

If you’re close to retirement already, ask them: They’ll probably tell you to spend the lot.

7. The hours are great

Ever had a sickie and noticed how much more pleasant the world is when everyone else is cooped up in the office? Shopping is a joy, there’s no one on the beach, the roads are empty. Okay, slight exaggeration – that’s more for a future article on The Benefits of Retiring After Nuclear Armageddon. But the little perks are real enough, such as leaving for your holiday at an odd midweek time that most people can’t make because of work. It might just save you enough to pay for two tickets.

8. It’s fun

Look folks, you’re not at work! You can do whatever you like! If you really can’t think of anything great to do with a little money and a lot of time, then contrary to prevailing wisdom maybe you’re exactly the kind of person who needs to retire and start looking. We pass this way but once, whether we’re 45 or 65.

(9. You’ve little to lose by trying)

(Okay, we’re whispering this reason because it kind of goes against the grain. But even if you get to your designated job-free day of reckoning and after a month find yourself climbing up the wall, wishing that you were still working, then… so what? Go back to work. Okay, you’ve missed out on a few holidays and luxuries over the years by saving for something that you didn’t actually need, but any early retiree who goes back to work should have a great pot of cash to ease the pain.

If that’s you, maybe chuck half your total investment pot in some long-term financial provision, then spent the rest on a sports car, a flat in Rio and family trips to New York for the weekend. And then return to the office. You’ll still enjoy a comfortable retirement some day, just a shorter one.)

10. You can’t take it with you…

…unless you spend your loot freezing your head for future generations to revive. Such antics lie beyond the scope of Monevator.com. Happily.

Further reading: