Some people selling investment advice speak or write of “diversity” as if it were the goal of investing. It’s not! The goal of investing is to make you money.
– Ron Muhlenkamp
We are all familiar with the phrase “Don’t put all your eggs in one basket.”
It’s important to check the quality of the baskets. Not all baskets are well constructed.
In the investment business, a CD basket differs from a bond basket, which differs from a stock.
Some people selling investment advice maintain that you should use all of these baskets for diversity. They speak or write of diversity as if it were the goal of investing. It’s not!
The goal of investing is to increase the purchasing power of your assets—to make you money. Any potential investment should be measured by the likelihood of making you money. Any potential investment that is unlikely to make you money should be discarded.
Diversification as a “Safety Factor”
The people who say you should own some of each investment for diversity are really telling you that they don’t know how to judge a good investment from a bad one, or that they don’t know what kind of investment climate we’re living in. In one respect they are right. The less you know, the more you should diversify.
Again, the goal of investing is to make you money. To do this, you can either take the time and make the effort to learn how to do it yourself or hire someone to it for you. If you had a perfect crystal ball, you would select the one best investment and put all your money into it. Nearly all
great fortunes are the result of concentration, usually one person founding a company and focusing on one idea. But this is an all-or-nothing strategy, and no one has a perfect crystal ball. If you pick the wrong investment partner or the wrong idea, you can lose your investment.
Getting Investments Wrong
No matter how much work an investment advisor does in getting to know a company, an industry, or an economy, they will still have a 20%–30% chance of being wrong. No matter how well they get to know the people involved, there are some things they won’t tell us. Often this is because they don’t (or can’t) know, but sometimes it is because they won’t admit it.
Some things you will want to avoid when constructing your security basket
- Avoid commodities and futures because they are a zero-sum game, and both the users and producers work to drive prices down.
- Be skeptical of buying options and other derivatives because they are also a zero-sum game and time may work against you.
- You may want to avoid limited partnerships because the fees tend to be high.
- CDs are guaranteed to lose you money after taxes and inflation
- Be skeptical of debt instruments—bonds, mortgages, fixed annuities— because we know they are managed for the benefit of the issuers and against the interests of the investor.
The Importance of Being Informed
So what should you do?
At Muhlenkamp, we think that there are 3 top things you should do as related to the goal of investing:
- Keep a diary of your thoughts on investing and the articles that make sense to you. Over time, you will learn what works and what doesn’t.At Muhlenkamp, we put what we learn on paper because, frankly, the better you understand what we are doing, the easier it is for us to make money for you.
- Checking the record of your stockbroker or financial planner is likely to be more difficult. Most don’t keep or publish a record of their recommendations or their results. Talking to a number of satisfied clients may be the best that you can do.
- Try to get differing opinions and question them all. This will broaden your perspective and help you make informed decisions.
And, when it comes to the goal of investing, “Don’t put all your eggs in one basket.”
At Muhlenkamp, we think that’s good advice. We always use at least 20 baskets when investing, never putting more than 5% of our assets into any one of them.
The opinions expressed are those of Muhlenkamp and Company and are not intended to be a forecast of future events, a guarantee of future results, nor investment advice.
