At Sewickley Financial, we believe investors are better served investing more like a business and less like a broker. And so we work with our clients to invest more like a business. So what does that mean?
Invest like a Business
It means getting to know a financial instrument, an industry, a company, etc far in advance of investing money. Think about it, a biotechnology company doesn’t just show up one day to an auto plant, plunk some money down and expect to become successful in heavy machinery manufacturing. But something similar happens everyday with individual investors and their brokers. Most of its harmless, but it’s not a formula for building wealth.
Investing more like a business than a broker means no dollar cost averaging. There’s a way to invest to build wealth & it means being willing to accept additional risk when the opportunity is greater & less when potential returns become less clear or less positive. It is not market timing. Rather it is a decision as to how to allocate resources (to cash, to fixed income, to equity, to commodities) based on optimizing reward relative to risk.
There was a great deal of pain investors might have missed in 2008 by investing more like a business. In early 2008 many company managements were telling investors “we’re not seeing it yet” regarding the anticipated recession (a recession was widely anticipated in 2008 as we exited 2007). However, many of those same managements were preserving cash. Investors could see it in their financial statements & hear it in their quarterly commentary. However, the financial markets beckoned as brokers told investors stocks were “cheap.” And, after all, brokers don’t make much money if investors preserve cash.
Finally, investing more like a business means investing conservatively. It means investing in straight-forward equities, bonds, ETFs, commodities, and cash. We avoid esoteric financial instruments leveraged to the valuation of another financial instrument. That conservatism also means that there are hot stocks, IPOs, trendy sectors, etc that will not enter our universe for consideration as an investment.
Advantages & Disadvantages of Investing in the Public Markets
We also want to mention that investing more like a business means recognizing the advantages & disadvantages of investing in the public markets.
At a high level, some of these advantages include liquidity, opportunity for diversification, publicly available information, compensation for risk, reasonable transaction costs, passive cash flow. Disadvantages include volatility, asymmetric information risk, market risk, counter-party risk. This list is by no means comprehensive, but rather a framework to begin contemplating investment opportunities and managing risk.
The more that one can line themselves up with the advantages and minimize the disadvantages, the more money they might make on a consistent basis investing in the public markets. An investment process should incorporate the basics of properly managing risks & opportunities.
Just because one of the advantages of the financial markets is opportunity to diversify, it does not mean that you will do well because you diversify your assets. Taking advantage of the opportunity to diversify means allocating investment capital to the areas where reward is highest relative to risk. Please note the “s” in areas.
The unfortunate side effect of liquidity provided by the public markets is that the value at any given moment in time is essentially determined by the next marginal buyer/seller. Over the long-term Net Present Value (NPV) of expected cash flows rule, but it doesn’t mean everyone’s rational in the short-term.