You Only Live Once

credit: http://www.flickr.com/photos/49568889@N08/7684077336/sizes/m/in/photostream/

I’m a HUGE fan of Lonely Island. Came across this awesome music video titled YOU ONLY LIVE ONCE, feat Adam Levine and Kendrick Lamar (who?).

I love it because it makes fun of people who take risk a little too seriously (“Two words about furniture: KILLING MACHINES!!”).

But while we scoff at the idea that we should stop going to clubs because loud music is bad for your ears, it amazes me that so many young people adopt that very same mindset when it comes to investing.

Here’s an interesting thought: Investing in the stock market is risky in the short run, but it’s the safest investment you can have in the long run.

The stock market is risky in the short run

Let’s tackle the first half of that last para first. Check out the returns from the stock market’s five worst years, from Financial Ramblings:

  1. 1931, -52.7%
  2. 2008, -33.8%
  3. 1930, -33.8%
  4. 1937, -32.8%
  5. 1974, -27.6%

So yep, in the very short term, buying and holding stocks is risky. Based on what history tells us, you could lose as much as half of your portfolio in a single year – Investors sure as hell weren’t popping champagne in 1931.

But it kicks ass in the long run

But it’s a very different story when you’re holding stocks for long periods of time.

Jeremy Siegel (whose classes I used to crash in college to leech off his market insights – woot woot!) argued in Chapter 2 of his book Stocks for the Long Run, that with a sufficiently long holding period, stocks are actually less risky than bonds.

According to Wikipedia, “During 1802–2001, the worst 1-year returns for stocks and bonds were -38.6% and -21.9% respectively. However for a holding period of 10-years, the worst performance for stocks and bonds were -4.1% and -5.4%; and for a holding period of 20 years, stocks have always been profitable.” Bonds, however, once fell as much as -3% per year below inflation.

In short, Siegel found that if you held stocks for 17 years or more, you never lost money even in the worst case scenario. 

Okay, so critics might claim that his findings are way too optimistic, and that the stock market’s prosperity in the 20th century may not necessarily repeat itself. But what’s the alternative? Investing in scammy gold buyback schemes?

The truth is, based on any historical record so far, the safest, and best, long-term investment for most young people has clearly been a diversified portfolio of stocks. Yes, even after you account for the stock market crashes in the past couple of years.

Young Heart, Run Free

And therein lies the awesomeness of being young and sexy – as young people, we have the luxury of having enough time. Enough time for a long career of earning money ahead of us. Enough time to hold on to our stocks without worrying about their fluctuations in any given day/month/year, knowing fully well that in the long run, we’ll come out on top.

So please. Stop getting intimidated by the stories of banks failing, and quantitative easing, and Justin Bieber’s Twitter account getting hacked. These are all short run risks (especially if you’re Justin Bieber), which are irrelevant if you’re holding out for the long term.

Take a little bit of risk in the short run to enjoy some awesomeness in the long run.

You only live once.

Image credit: TheOnyxBirmingham

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Starting to Save…. Tomorrow

Heya! Sorry for being gone for so long – work has been absolutely crazy lately. (But in case any of my employers are reading this, I love my company. Hugs and kisses, xoxo). Just spent the last two days on leave (or “time-off” as they say in the US of A), sitting at home… and crunching numbers for work. Yeah, you know I’m baller like that.

Anyways, that’s why I’m hoping you’d forgive me for blogging my Ted Thursday post on Saturday. Today’s Ted talk comes from Shlomo Benartzi, entitled Saving for Tomorrow, Tomorrow. I loved it because it pretty much espouses everything that I’ve blogged about on saving so far. (I also love his accent – still trying to figure out where the hell he’s from).

Here, he points out three problems we face in behavioral finance, and then gives you a simple solution that will solve all of them – the same one I’ve been preaching for the past 3 months. Yes, I know, all the ladies say I should totally be on TED. Anyways, in summary:

1. Present bias: We know we should be saving, but we don’t do it today. We’ll make all these resolutions that we’re gonna save more next year, next month, next week, whatever, but it never works. It’s always a lot more fun to spend more today, and put off what we know is good for tomorrow.

Quote at 6:47 of the video: “Self-control is not a problem in the future. It’s only a problem now when the chocolate is next to us.” 

2. Inertia: People are lazy. And don’t even think that you’re different from the rest of us, because you’re not. Even checking a box on a form, is way too much effort for most people, even if it means saving someone’s life. Germany has an opt-in program for organ donation where you would have to check a box if you would like to donate your organs. Contrast it to Austria, which has an opt-out program, where you would check a box if you don’t want to donate your organs. The result? 12% of Germans take up the program, while a whopping 99% of Austrians agree to donate their organs.

3. Loss aversion: We hate losing stuff. When it comes to savings, people amazingly frame this as a loss because they have to cut their spending today.

So where does that leave us? The trick to overcoming all of these problems is to (surprise, surprise) adopt an automated system that saves on a regular basis, and whenever you have any income increases. Since saving more tomorrow is easier than saving today (present bias), we first make the commitment to save a certain percentage of our income… tomorrow. Or next month. Whatever. We then commit to it by setting it up with our bank.

Once it’s set up, that overcomes our problem of inertia, because it takes a helluva lot of effort to cancel that commitment. So we’ll automatically be saving without any effort at all. And finally, by committing to save a fixed percentage of our pay rises, you’ll be taking care of loss-aversion by allowing yourself the luxury to spend part of your pay rise, while saving the other part of it.

In fact, if you’re way ahead of the game, Imma challenge you to save a higher percentage every time your income rises. Say you start off with an income of $3,000 and you save 10% ($300), leaving you $2,700 to spend. When your income rises to $3,500, up the ante to 15% ($525). You’ll still have $2,975 left over to spend, which is more than what you were spending on your original income anyway.

Random: There’s also a shoutout to Singapore at 16:47 of the video – apparently we hold the record for lottery ticket purchases. According to Benartzi, the average household in the world spends $1,000 a year on lottery tickets, while the average household in Singapore spends $4,000 a year on lottery tickets. WTF?! Seriously, what is going on here? Buying the occasional ticket is fine (and it’s helluva fun to trash talk in the office about handing in our resignation once we win our $10 million dollars), but throwing away $4,000 a year is just stupid. Fellow countrymen, try saving it instead 🙂