You took a chance with a big part of your investment portfolio . . . and now you have to delay retirement to make back the money.
So many of us shudder to think about having to go back to work for an extra year or more because our nest egg took a big loss. Imagine, then, using an investment strategy that guarantees that you need to work not just 1 year, but 25 years. Ouch!
To be frank, this strategy is probably appropriate for most people, as it has many, many great benefits. So, please don’t interpret this article as being completely dismissive. The goal is to be deliberate about when it is used.
The personal finance gurus preach that you should spread your bets in order to prevent any single investment from causing significant harm to your wealth. The requirements to successfully use diversification are within reach for most people in developed countries—access to a market that is consistently increasing profitability and a way to buy a wide representation of assets. The two keys to success are to control investment expenses and, uniquely, to avoid knowing much about the individual assets. There are people that benefit significantly from the diversification strategy.
- Those focusing their attention on something other than investments
- Those working a fulfilling +25 year career that they never want to or need to step away from
- Those who do not like arithmetic or reading about businesses
- Those who trust their fellow humans to act in their best interest
If you have these characteristics, then you have found your investment strategy. You can sink all of your investment dollars into the most diversified stock and bond index funds that you can find, then go about living your life. However, a few of you may have special situations, which don’t quite fit into the work-for-25-plus-years-and-hope-that-you-don’t-out-live-your-money pathway.
Imagine living on $50,000 and saving $24,000 every year—a situation that many Americans would feel good about. To save enough to retire, you would need to work for 25 years to have a nest egg that would likely sustain you through retirement. (Assumes that inflation will grow your expenses to $100,000 a year at retirement, investments grow at 8% a year, and that you will need $1,250,000 to reach the 4% rule for retirement)
Diversification mitigates the chance that your whole portfolio will be devastated, but it also guarantees that there will be losses from individual assets. Some people can earn enough work income to succeed with 8% annual returns. For others, a steady 8% return may mean being trapped in the rat race.
You don’t like this idea? Well, tough beans! Unless . . . you can read what I’m ‘riting and can do ‘rithmetic.
If you are still with me after that joke, then maybe you crave an alternative investment strategy. But, you also have all the prerequisites for a more accessible, sustainable alternative. So, what is it?
This is a core concept for success in just about every important aspect of life—career, business, and relationships. Strangely, in the personal finance world, it feels like going against the grain.
Focus allows you to develop an investment advantage over other investors. You can out-learn and out-hustle. This helps you get opportunities that have the potential for above-average returns.
Focus allows you to know when something significant has changed about an asset–a chance to reevaluate whether you should continue to hold that asset. Imagine trying to monitor 500 stocks in your mutual fund. If you have one asset, then it is much easier to see problems and opportunities.
Focusing your attention to one investment at a time, gives you a chance to fully assess any risk–not as abstract portfolio theory, but in actual dollars and time. Not only can you avoid risk, but you can also even remove some risks if you control the asset. Limiting your losses is key to realizing the potential of your investments.
Illustration of Focused Investing
It was my goal to purchase a cash-flowing investment property last year. So, my evenings were spent calculating the potential investment returns of dozens and dozens of single-family homes in my region. My reading list included everything that I could find about buying and operating rental homes. I looked for other investors, realtors, property managers, contractors and lenders. When a good opportunity came on the market, I recognized it. It took a grand total of $65,000 in cash to buy and fix it up. Now, that my property manager has found a good tenant, I am in the process of taking a loan against the house for $55,000, which means that there will only be about $10,000 of my original capital left invested in the house. Even after all operating expenses, loan payments, and annual reserves for vacancy and major repairs, the house will produce $1,500 a year in cash flow. Those of you who are good at ‘rithmetic have already calculated that the house will be producing a 15% annual return. Soon, I’ll have most of my money ($55,000) back from this house, and it will only take a few hours a year to oversee this investment.
How risky was it to plunk down $65,000 on one house? Don’t get me wrong. There was and still is risk. But, focusing on this one investment allowed me to mitigate my risk through a property inspection, property manager assessment, contractor bids, realtor opinion, my own due diligence, title and property insurance, and cash reserves for emergencies. Bad things are going to happen with the house eventually, but there aren’t too many bad things that will cause me to lose a lot of money. I’m comfortable with that level of risk, especially because the upside was so much higher than that from an index fund.
What can you take away from this example? It shows that, first, you have to work to recognize a good opportunity—but not as much work as 25 years of a 9-5 job. Second, you can do things to limit your risk. Third, you can make a profit that will beat a mutual fund.
Here is one last image to keep in mind as you consider a focused investment strategy. If you try to catch two rabbits at one time, you are likely to end up with neither. Be laser focused on stalking and catching one delicious rabbit.