9♦ – Don’t Try to Get Rich Twice

Don't Try to Get Rich Twice - Stop Taking Risks When They've Already Paid Off

Don't Try to Get Rich Twice

This post is part of the MoneyDeck series, a pack of 52 playing cards that describe 52 “golden rules” for Private Investors in the UK.

Don’t Try to Get Rich Twice – Stop Taking Risks When They’ve Already Paid Off.

“You can never be too rich or too thin” has a lot to answer for.

Today we’re going to talk about risk profiles, and in particular how the level of risk you take needs to change as you move through your investment journey.

I’m sure you remember Bernie Madoff and his suspiciously consistent investment returns.

But do you also recall how many of the victims of his Ponzi scheme were very wealthy people (many of them were film stars) and how many of them invested a large proportion of their life savings with a crook?

  • What were they thinking?
  • Why did they need to take such a risk?

Well – apart from the possibility that they saw Bernie as a safe pair of hands, and his steady returns as the product of a low-risk strategy – the most likely explanation is that those people got rich by taking some risks, and they forgot to stop taking risks once they were rich. (( Note that I’m not advocating excessive risk-taking as a get-rich strategy, but simply pointing out that it’s an approach that many people use ))

  • Successful people are convinced that they are doing something right, and it can be difficult to persuade them to change.

Recently, Morgan Housel wrote about Jesse Livermore.

  • Most people will know him from his autobiography Reminiscences of a Stock Operator, written under the pen name of Edwin Lefevre.

Livermore famously made and lost several fortunes, none of them lasting for more than eight years.

  • He ended up committing suicide while broke.

He realised after losing three fortunes that getting rich made him feel invincible, which led to him taking on more leverage.

A great many smashes by brilliant men can be traced directly to the swelled head.

But understanding what he was doing wrong didn’t mean that he could stop doing it.

The bit of the story that I was most fascinated by was that during the October 1929 crash, Livermore was short the market.

  • On October 29th, while many investors were ruined, Livermore made $3bn in today’s money, and became the richest man on the planet.

But four years later – after making bigger and bigger bets – he was broke.

  • It’s the same story today – Morgan found that the Forbes list of billionaires has 60% turnover per decade.

Closer to home, I’m struck by the investing approaches of the people that I meet who have the greatest interest in investing – the guys interested enough to go to the investment shows, or to join investment groups.

I’m not suggesting they are like Livermore , but they have something in common:

  • They mostly have a single, high risk strategy.

They might invest in small cap (AIM) stocks – tech firms, or highly rated growth stocks, say, or even energy producers – or maybe they like Canadian gold miners.

  • Others trade FX via spread bets.
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What they have in common is that they rarely talk about asset allocation, or passive investment, or costs and taxes.

  • Instead, they focus on something “fun” that might seem stimulating when applied to a £50K portfolio, but is close to madness when used with £1M or more.

Maybe they never expect to get to £1M (in which case, why are they investing?) or more likely, they want investment to be interesting.

  • But if you’re doing it properly, it’s pretty boring.

The title of this article comes from a speech that Warren Buffett gave to some university students in 2016:

Anyone who has become rich twice is dumb. Why would you risk what you
need and have for what you don’t need?

If you are already rich, there is no upside to taking on a lot more risk, but there is disgrace on the downside.

As Meb Faber commented at the time:

Being rich is a good problem to have, but it can actually be difficult for many people to stay rich.

For rich, we’ll substitute financially independent, so here in the UK we’re talking about people with upwards of £700K to £1M, but the principles are the same.

  • Reaching financial independence is the finish line.
  • Where you set that line is up to you, but when you reach it, the race is run.

You have to stop running, and figure out how to keep what you have.

  • Think more about the risks to your wealth than about opportunities to increase it.

Once you have capital, your first job is to preserve it.

  • You’ve already won the game, there’s no need to risk losing it in injury time.

Here’s what to do:

  1. Diversify across geography, asset classes and company size.
  2. Keep enough liquidity that you don’t need to sell in a downturn.
  3. Have some real assets, like a house to live in.
  4. Be sure you understand the risk level of your portfolio (what would happen if stocks lost 40%?)
  5. Make sure your risk level matches your age, and your investment horizon.
  6. Don’t actively trade more than a portion of your portfolio.
  7. Don’t use leverage.
  8. Remember, the only risk-free / guaranteed returns are those on government bonds.
  9. And: If it looks too good to be true, it is.

So remember, Don’t Try to Get Rich Twice – Stop Taking Risks When They’ve Already Paid Off.

Until next time.

Mike is the owner of 7 Circles, and a private investor living in London. He has been managing his own money for 40 years, with some success.

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9♦ – Don’t Try to Get Rich Twice

by Mike Rawson time to read: 3 min