Covid restrictions were easing, and I was mildly thrilled to be in the garden of some dear friends – a couple I’ve known for decades.

Thanks to lockdown building works, their house had grown since I’d last seen them. So had their twin boys.

But my friends still had some personal growth to do.

They’ve always bickered. They were bickering again and to be honest that was also comforting.

But it seemed a shame.

My friends were past the hard slog phase of their life. Yet they didn’t seem ready to enjoy the sunny uplands.

Happy holidays?

“Finally we can get away after 12 months in this house and I don’t want to be arguing about spending £50 on a few croissants at the hotel,” he said.

“It’s not a hotel – it’s a horse farm!” she protested. “And it won’t be croissants – it’ll be a bowl of cornflakes.”

“She’s annoyed because we’re going to Wales. And she’s too tight to understand the value of giving the boys an experience like learning to ride.”

“I’m not annoyed. But it’s going to be raining and it’s going to cost £3,000 for five days and you wouldn’t let me even look for a cheaper place to stay.”

“She’s annoyed because we’re not flying to Portugal. Even though we would spend more if we did!”

“I just want to get value for my money. Not rain in Wales.”

“Well I paid for it anyway! I want the boys to burn off some energy, and we can easily afford it. This place is great – friends told us about it. Why spend hours bickering about £50 on breakfast?”

“I just believe we can get the same experience for half the price,” she said. “Maybe somewhere warm, too.”

“Get this…” he sighed. “She wants us to drive there – to Wales, for seven hours – because the hotel is a few miles from the station and I said we’d just get a taxi. She’s complaining taxis are a waste of money. As if seven hours driving isn’t a waste of time.”

“It’s not a hotel – it’s a horse farm. And I don’t want to be the mug that turns up from London in my Hunter wellies with banknotes falling from every pocket. I am not that dumb bitch!”

That silenced us all for a moment.

Meet their money mindsets

So, you think you have a handle on this pair?

London is expensive. Raising children, too, and they have twins. A double helping of expenses moving through their budget like an anaconda swallowing a turkey.

Money is tight. One of them thinks this is best addressed by a staycation. The other by saving on avoidable expenses like paid-for breakfast and taxis.

We can see both sides, right?

But here’s the twist: money isn’t tight for this couple.

Both of my friends – who are not married and have always kept their finances separate – are now (multi) millionaires in their own right.

True, being a millionaire isn’t what it used to be.

But clearly they can afford a mini-break in (lovely, incidentally) Snowdonia.

“Why is she squabbling over this? Can you talk some sense into her? She listens to you. I don’t want to be faffing over fifty quid for the rest of my life when I could be enjoying myself. We have – what – 30 years left? Maybe 20 good ones. You know us well enough for me to say this… We could afford to take the same holiday every week for the rest of our lives. Every single week!”

It didn’t seem like the best time to bring up sustainable withdrawal rates.

“He seems to think having money means it’s perfectly okay to be taken advantage of. Well I don’t. I’ve shopped around for cheaper flights and better deals all my life. Why should I stop now? It’s careless.”

Aha!

Now we were getting to the bottom of it.

How they made it

Some context before we get to the money shot.

He has always had money. Born into relative privilege – public schools, annual skiing holidays, aggressively spendthrift friends in his 20s – he was also unfortunate enough to inherit early.

She had a far harder upbringing. Messy home life. University the escape route. By her own admission she was fortunate to join the small company she did 15 years ago. But she worked most weekends to stay at the top.

Last year her company was acquired. Years of stock grants paid out.

So on paper they now have roughly the same net worth.

The snag is that what their net worth represents to them (and how they obtained it) means that they see money (and how to use it) very differently.

His and hers

He has never had to worry about money. He has had other hardships (as I said both parents died young) but solvency has never been his concern.

He’s seen money used as a tool since childhood. His family speculates, invests, wins and loses, and celebrates freely when things go right.

And while I wouldn’t want to suggest he was on the shortlist for the Bullingdon Club, he has certainly moved in circles where to spend money without any visible care is a virtue, rather than a vice.

Her childhood was much more threadbare.

But it’s not just that she now wants value for money for financial reasons.

It’s that saving money, shopping around, getting deals, not being that ‘dumb bitch’ as she put it – these things have defined her.

He is a product of his upbringing, though maybe harder for many of us around here to identify with. Fretting about £50 is demeaning. It spoils things. Begrudging spending on friends and family is somehow unloving.

For her the price of avoiding being a slave to money is eternal vigilance.

For him that very vigilance is being a slave to money!

Their different life experiences – and these resultant money mindsets – are animating how they interact with money today, and fueling their conflict.

Money is child’s play

Perhaps ironically, the older I get the more I see how such childhood experiences shape our later attitudes.

This is universal. It’s nothing to be ashamed of.

But it’s worth figuring out how your money mindset was formed in order to avoid some of these problems.

Perhaps your parents had a scarcity mindset? They never risked changing jobs or rocking the boat at work. Only saved in cash – nothing riskier like shares. Urged you to get and keep a stable job.

Or maybe one parent was a sometime successful creative? Lurching from feast to famine. Ending up with riches – but before then vanishing from your life for five crucial years when things were going badly?

Did you live in a big house from the day you left the hospital because your grandmother inherited a fortune?

Or maybe your family has never had money. Nobody went to university, either. All this seems like science-fiction to you. But you have come across the concept of financial freedom and you’re wondering if you can have it, too.

All these different experiences will shape how you think about money. And often in contrary ways! We rebel as much as we follow an archetype.

The key is understanding where you came from, and how much is still relevant to your life today.

Our money mindsets must move on

In picking her battles over small amounts of money when she now has bags of it, my friend is a bit like a Japanese World War 2 soldier stuck on a Pacific Island in the 1970s.

Still fighting a war that in their minds never ended.

I know a couple of self-made people from modest upbringings who hate their work now but they just will not stop. They say they don’t want their kids to ‘suffer’ like they did (and their parents did) by having to worry.

They intend to leave their kids a small fortune to solve this.

What they don’t realize is that with their private school education, top-flight university degrees, and a decade of bringing similarly well-off friends back to the family home at weekends, their children are in a thoroughly different place to them already.

Indeed if they really want to worry about their (blamelessly) entitled kids’ relationship with money – sort of futile, I suspect – they should start thinking about very different problems altogether.

But you can hardly fault the motivation.

At the other end of the spectrum, in my professional life I’ve also seen people make a lot of money and become obnoxious. Leave partners, laugh at those who cashed out with less, grow awful goatee beards. They try to be something they’re not – at least until the hedonic adaption kicks in.

Thankfully it seems to be just a phase they go through.

In these cases it’s hard not to see the geek who was laughed at in school still trying to show the world they’re worthy of respect.

A spending plan

I’m no psychologist and I’ve struggled with this money mindset stuff myself.

For example I wrote about how as soon as I earned more than my father, I took my foot of the gas.

I don’t think earning a fortune is the be-all. But I do think that was a dumb reason not to earn more.

Then there is my internal debate over frugality versus simply being a tightwad.

Still, I don’t let my own issues and failings hold me back from giving my friends my unqualified advice.

I explained to my friends that I thought they were each acting out their childish beliefs. No offence!

And I suggested they create a joint ‘rest and recreation’ account that they funded with significant cash inflows every month. Approaching five-figures between them.

Family adventures could be funded from this account, which they can easily afford indefinitely.

They were not to squabble over spending this money. That was the whole point. At the same time they should be alert to their transferring the bickering to another aspect of their financial lives.

(They are looking to buy a new house soon. And I know in that battle I will be solidly backing her view instead…)

Mini-me, mini-you

My friends’ issue may seem like a high-quality problem to have.

Most of us could do with more money. We are best-advised to book holidays months in advance so that we get more value from looking forward to the experience, stretching our spending further.

In contrast my friends need to stop shrinking the dividend from their quality time. They are doing this by turning every indulgence into an argument.

But wherever we are ourselves, the takeaway lesson is universal.

Your inner child is still trying to pull the purse strings. If you don’t notice how then you will be doomed to misunderstand money all your life.

Can you see a little you telling you what to do? Share your money mindsets in the comments below…

I would struggle to pick my favourite Morgan Housel article – I was already a fan back in his Motley Fool days – but he just posted another.

Urging investors to play their own game, Housel says:

Someone recently asked how my investment views have changed in the last decade.

I said I’m less judgemental about how other people invest than I used to be.

It’s so easy to lump everyone into a category called ‘investors’ and view them as playing on the same field called ‘markets’.

But people play wildly different games.

If you view investing as a single game, then you think every deviation from that game’s rules, strategies, or skills is wrong.

But most of the time you’re just a marathon runner yelling at a powerlifter.

So much of what we consider investing debates and disagreements are actually just people playing different games unintentionally talking over each other.

As Monevator’s resident naughty investor who finds it hard to write freely on his own blog these days, I hear you Morgan.

Of course that’s my choice. I believe most people should be passive investors. So I’m wary of leading the wrong people off the right path.

Still, we’re big fans of do it yourself investing around here. For me that starts with realizing there’s no one right way to be an investor.

Lots of people have insights to share – even if it’s just to reinforce why you’re doing it your way. And soon we’ll bringing you some of these additional perspectives, courtesy of our very successful call for new writers a few weeks ago.

For now, have a great weekend! Only three sleeps to go until we can eat under a strange ceiling, like civilized human beings.

[continue reading…]

One of the most critical factors when considering risks and rewards in investing is time.

• Some investments look great over certain periods of time and terrible over others.

• The length of time you hold a particular investment can change its risk/reward profile.

• Small percentage differences add up over the long term.

• We also need to think about volatility. In essence volatility describes how often or how far a particular asset goes up and down.

Does this look like a good investment?

The graph shows the great stock market crash of October 1987. London’s largest companies lost one-third of their value in just a few days!

How would that make you feel?

Here’s what happened over the next five years:

The big crash is still visible, on the left hand side, but UK shares were back to their pre-crash levels just 18 months later. The stock market then went basically nowhere for the next three years.

The best time to invest was when it felt worse – right after the crash!

Past performance is no guarantee of the future. But we shouldn’t ignore its lessons.

Today the Great Crash of ’87 barely registers on this four-decade graph of the FTSE 100:

Will the coronavirus crash of Spring 2020 – that very visible scar on the right of the graph – look similarly trivial in a few decades time?

The long-term might not be long enough

You might conclude markets always come back if you wait long enough.

But investors who bought Japanese stocks in the late 1980s would differ.

Two decades on from hitting a high of 38,957 in December 1989, the Japanese 225 index was still two-thirds below its previous peak:

Indeed it was only in February 2021 that the index finally breached the 30,000 level again.

And as I write the Nikkei 225 is still far below its all-time high, more than 30 years later.

You say you’re a long term investor. But how long is long term?

Lower-risk assets can still lose money

Let’s twiddle the dials on the Monevator Investing Time Travel Machine to consider another historical example.

Does this look like a good investment?

That graph shows the progress of a UK gilt fund between 2008 and the start of 2012.

Pretty nice.

Gilts – UK government bonds – are the safest investment after cash for UK citizens. So a fund invested in gilts should preserve your wealth, right?

Well, here’s how the same gilt fund did between the start of 2012 and autumn 2013:

Investors in this lower-risk fund lost money, even after reinvesting all the income from gilts.

And here’s how that gilt fund did compared to UK shares:

The ‘safe’ gilt fund (blue) fell in value 3%, while the ‘risky’ FTSE 100 (red) increased by 15%. (Aside: shares were more volatile.)

Same difference

I am not making the argument that you should own shares versus bonds, or vice versa.

Let alone for avoiding Japanese markets, or anything so specific.

With these examples I’m just trying to illustrate the right way to think about investing.

Because any investment must be considered over different time scales – not just the past month or even the past year.

So-called safety is relative, and often depends on valuation.

And things can go down and bounce back, or stay down.

Most of us have no skill at judging how different types of investment will do – especially over the short to medium-term.

Usually it’s best for most people not to try.

Time and diversification

Unfortunately we don’t have a time machine. We don’t have a crystal ball, either.

So we cannot invest in the past with hindsight. And we cannot be sure of tomorrow’s winners.

However we can spread our risk among different kinds of investments (or assets).

By holding a collection of assets, we can smooth out the ups and downs. We might even turn the volatility we’ve seen above to our advantage!

• Recipe for poor returns – Chop and change holdings to chase recent strong performers. Ignore history, diversification, and valuation.

• Recipe for good returns – Have a plan, stick to it, consider neglected asset classes. Remember history and reversion to the mean.

Different kinds of investments – such as cash, bonds, property, and shares – are called asset classes.

For example, cash is an asset class. Whereas Tesco shares are a specific investment (a tiny piece of ownership of the giant grocer) within an asset class (shares).

Here is a typical spread of returns from six different asset classes over an illustrative 10-year period:

It doesn’t matter what the different assets are for our purposes. This is just an example.

The important thing to look at is the shape of the graphs, and the numbers in the following table.

Asset	Total Return	Annualised	Worst year	Best year
A	34%	3.3%	1%	7%
B	48%	4.5%	-7%	8%
C	80%	6.7%	-16%	19%
D	165%	11.4%	-21%	57%
E	36%	3.5%	-6%	8%
F	-6%	-0.7%	-22%	20%

Note: Numbers for illustration only

In this table:

• Total return: how much you’d made by the start of year 10
• Annualised: the equivalent annual rate of return
• Worst year: the lowest return in a single year for that asset class
• Best year: the highest annual return for that asset class

By looking at this series of returns and graphs, we can see that:

• Different assets behave differently at different times

• The smoothed annualised return hides a lot of big yearly swings

• Small differences in annual return can make a big difference long-term

Why pick one when you can have them all?

If only we had that table in year one! Then we’d have put all our money in Asset D and made a fortune.

But we didn’t and we never will, except by luck.

We can’t be sure about the future. As for being guided by the recent past, if anything, the best asset over the prior ten years is more likely to do relatively worse over the next ten years. (But again, no guarantees).

What if we hedged our bets and split our money across all six assets?

Here’s how things would have turned out after a decade.

	Total Return	Annualised	Worst year	Best year
Portfolio	59%	5.3%	-3.5%	14.7%

Note: Numbers for illustration only

• The worse year we’re down 3.5%, versus the worst 22% decline in Asset F

• The best year we’re up 14.7%, compared to the best 57% rise in Asset D

• Our return of 59% beats four of the six classes’ individual total returns

• Volatility is lower compared to holding either one of those outperforming assets. Which is nice

What if we tried to take advantage of the volatility, by trimming our winners and adding to the poor performers every year?

As a simple illustration, here’s what happens if every year we sold everything and then reinvested our money again, equally split between the six asset classes:

	Total Return	Annualised	Worst year	Best year
Portfolio	61%	5.5%	-3.6%	15.4%

In this illustrative example, annually rebalancing across the six assets classes improved our total and annual returns.

Key takeaways

• Holding a mix of different kinds of assets can smooth your returns

• The peaks and troughs are lower, and so are the maximum losses

• The price you pay for diversification is you will never make the best returns achievable (in theory) by holding only the best asset class

• But since you can’t know in advance what will do best, is that really a downside?

This is one of an occasional series on investing for beginners. You can subscribe to get our articles emailed to you (we publish three times a week) and you’ll never miss a lesson! And why not tell a friend to help them get started?

Note on comments: This series is for beginners, and any comments should reflect that please, rather than confuse or make irrelevant points. I will moderate hard. Thanks!