How Should I Invest?

It's also about working with people in a way that transforms the way they see the world. It's about helping them to live a meaningful life without being anxious about money. It's about helping them to become clear about what matters most to them.

But to fully appreciate the power of great financial planning, we need to give up the empty promises of market speculation. We must choose to see the investment markets for what they are: a powerful compounding tool available to anyone with clear goals, realistic expectations, and the proper understanding of how markets cycles work.

I get it. We all want the reward without doing the work. The benefit without the sacrifice.

When it comes to investments, this manifests itself in wanting to know what stock or fund is about to rise sharply.

The best answer to "How should I invest?"? 

"It depends".

It depends on who you are, where you live, what your life looks like, what you want your life to look like, how old you are, how much money you have, how much you spend, when you'll need money and how much, how you feel about losing money (even temporarily), and who the money is ultimately for.

When I meet clients they usually see life as something that happens to them, something they can’t control. Because of this, they're looking for something external to make their life better. And nothing quite holds the promise of a better life than the hope of making a lot of money in a short amount of time.

With that outlook it's natural to seek an answer. Unfortunately, there are many people pretending that it's a question that can be answered, and no shortage of businesses ready to profit from giving an answer.

However, "evidence" that the best investments can be identified ahead of time is scarce. It's most often bandied about by those ready to sell you an investment.

The great work done by a community of psychologists and behavioural economists since the 1970s has shown that, while in theory humans behave rationally, in the real world we do the strangest things.

The mental shortcuts we have inherited from our survival-obsesses ancestors have served us well in most areas of the modern world. Unfortunately, they reduce our investment ability in both good and bad market cycles.

"Human nature is a failed investor", as Nick Murray says.

Research has confirmed that investor returns are significantly lower than investment returns.

This “behaviour gap” is a result of the poor market timing decisions made by emotional people. You and I are no different.

So what are we do?

We can decide to pay less attention to the factors we can't control (market returns, what car a friend is driving) and focus on the things we can control (our savings rate, living expenses, investment asset allocation, the discipline to stay invested during a market correction).

We can choose to simplify our financial lives, making room for the things that matter most.Knowing that good investing is counter-intuitive and easy to sabotage when we are emotional, we can pre-empt future mistakes and put in place strategies to help us avoid them.

1. We can document our investment strategy. 

Robert Cialdini's work revealed that we want to be consistent. Documenting our investment plan can help prevent our future self from acting against our own best interests. 

2. Similarly, we can make a formal commitment to stick to the plan by signing a pledge.

3. We can understand our own biases by examining our past decisions.

4. We can take pro-active steps to reduce the likelihood of temptation. 

Like Ulysses asking his crew to tie him up, perhaps we can hide our investment account password in the safe knowing that the more we check the account, the more we may be tempted to change the strategy.

5. We can incorporate theoretically sub-optimal strategies that increase the likelihood of sticking to the plan.

This may mean holding more cash than otherwise recommended, for the purpose of being more likely to endure a market downturn.

6. We can make ourselves accountable to a third-party.

Having to explain your intended change to a friend or trusted advisor greatly increases the likelihood that you'll actually stick to the original plan.

The above might help you to continue along the path you set out on, but I still haven't told you how you should invest.

The truth is, when you have formulated a comprehensive strategy for living your ideal life, the investment strategy required to provide the required money presents itself naturally. Quality investment products have become commodities and are easily available at a very low cost to all investors.

However, all the best investment strategies incorporate the following 3 practices:

The correct asset allocation

This means investing in a mix of asset classes likely to provide you with the required investment return in the long run. After your own behaviour, this decision will be the next biggest determinant of your investment returns.

Diversification

Making sure that you have a sufficient mix of holdings within each asset class. With the advent of index funds, this is both easy and affordable.

Regular rebalancing

To counter the emotionally driven temptation to sell the worst performing assets (sell low) and buy the best performing investments (buy high), I recommend a planned rebalancing on a certain day towards the aimed asset allocation. This will ensure that higher-priced and over-valued assets are sold to purchase lower-priced and under-valued assets.

Many people have the time, skill, and willingness to do all of the above by themselves. There is more information available than ever before. For some this leads to understanding and knowledge, for others the "noise" of our modern world is overwhelming.

If you fall into the second group, working with a competent and caring financial planner will help you to clarify your goals, formulate a long term strategy to reach them, fund the plan with suitable investments in the great companies of the world, and manage your behaviour as you navigate the uncertainty of life.

However you decide to do it, I hope you are able to gain clarity about your own situation, take the actions to put you in control of your future, and have the confidence to live the life you want.

Life is not a dress rehearsal. Make it count.

Pierre is the director of Simple Wealth, an independent financial planning business that helps small business owners to get clear, get organised, and to grow wealth outside of their business.