Rules for Beginner Investors

December 3, 2018

Investing

“How should we be investing our chasunah money?” wondered Mechel and Mimi Hertz. They were at the end of their shanah rishonah, which had passed in a bit of a financial blur. Mimi earned an excellent salary as a computer programmer, and they’d both come into the marriage with a nice amount of savings ($100,000). Even so, they’d been using credit cards to pay their bills and finally noticed that they’d also been paying as much as 21% interest on some of them! Mimi had begun tracking their budget, and with better financial management they were now growing their savings. It bothered them, however, that their savings account paid almost no interest. There were always signs in the kollel coffee room about various investments, and some of these seemed interesting to Mechel.

How should newlyweds go about investing their savings? Is it safe to pick up an investment idea from the coffee room?

Are They Even Ready to Invest?

Since the Hertzes have credit card debt which is accruing interest, they are not ready to invest just yet. Paying high interest rates on credit card debt while investing is like sailing in a leaky boat. The leaks need to be plugged, or the voyage is doomed to failure. The top financial priority and best investment for those paying credit card interest is paying their balance in full.

However, young families without debt are still not cleared for their investment voyage. Growth investments, like stocks and real estate, require long-term commitments, and many young families face too many unknowns to lock themselves in financially. It usually takes a few years for newlyweds to get a reasonable handle on their career potential, their spending needs, and most importantly, their housing needs. Most families will want to buy a house and need all of their savings for use as a down payment. Therefore, it’s not wise to tie up most of their money in growth investments. Instead, money that will likely be used in less than five years belongs in super-safe CDs or short-term bond funds.

*The rest of this article assumes that debts are paid off and money for a down payment is locked up safely.

Investing Rule Number One: Don’t Lose Money

Investing Rule Number Two: Never Forget Rule Number One

Young couples usually have limited funds or experience with money, which makes them vulnerable investors. Because it’s hard for beginners to diversify or afford good financial advice, they can easily lose everything! While risk is part of every investment, professionals hate endangering their money. Warren Buffett (who coined these first two rules) and other top investors spend a tremendous amount of time and effort limiting their chances of losing.

Legendary hedge fund manager Paul Tudor Jones puts it this way: “Defense is ten times more important than offense.” The reason for this loss aversion is the way compounding works: recovering from a loss is twice as hard as making money in the first place. (To regain a 50% loss requires a 100% gain: think about the travel from $100 down to $50 [-50%] and back from $50 to $100 [+100%]). There are many cases of newlyweds losing all their chasunah money to bad investments, so the Hertzes need to proceed very carefully to avoid messing up on rules one and two.

Investing Rule Number Three: Simplicity Is the Ultimate Sophistication

Apple products cost a lot more than competitors’ but are wildly popular because they are so intuitive and easy to use. Apple founder Steve Jobs’s obsession with simple yet elegant designs is not just about looks, but his conviction that uncomplicated things work better. While it may be tempting to go with intricate investments, portfolios with too many moving parts are much more likely to break down along the way. Common pitfalls for young couple are pitches the husband receives in yeshivah or shul for either real estate investment partnerships, complicated pseudo-life insurance, and even get-rich-quick schemes from strangers. While any of these may work out well, because the Hertzes can’t properly research and understand them, they are much more likely to end up being losers.

Instead, beginner investors should stick to simple things that are easy to comprehend and control. Anyone can get wonderful long-term returns with little fuss by sticking to a diversified mutual fund portfolio. A reasonable expectation for these investors is to double their money every 10 years. While the portfolio can fluctuate wildly day-to-day, well-diversified portfolios have always rebounded from any interim volatility. Another possible alternative for the Hertz family can be buying a small town house (with a mortgage) to live in. Later, when they grow out of this starter home and buy a larger house, they can keep the starter home as a rental investment (by using the locked-up savings mentioned earlier plus new saving as the down payment). Both of these investments have limited risk (rules one and two) and are relatively easy to understand and control (rule three). While all investments carry risk, by following these rules the Hertz family has an excellent chance at success.

Finally, Remember “Why Me?”

A friend who’s a very successful investor told me that one of the best questions to ask about an investment proposal is “Why me?” What he means to ask is “If this investment is indeed as low-risk and high reward as presented, then why do you offer it to me instead of keeping it all for yourself or using a traditional bank which will lend cheaply for a sure thing?” My friend may still choose to invest in the deal, but he uses “Why me?” to bring forth more realistic explanations of potential risks since the chances for loss are usually higher than what’s apparent at first glance in a venture’s proposal.

I asked “Why me?” in 2012 to afrum guy from Eretz Yisrael who was trying to raise $150 million for a new facility which, using revolutionary new technology, would make fuel from leaves. I had no understanding of the supposed science, but the whole pitch puzzled me: If this was indeed a patented and proven alternative fuel, why wouldn’t the huge energy investors and companies like Exxon be chasing it with their endless billions? Similarly, beginner investors need to think about why they’re “lucky” enough to be chosen as potential financiers. If a deal is good and its manager proven, there is plenty of capital available from gevirim and banks. Raising money from yungeleit is usually a last resort, reserved for the riskiest of deals.