Last Friday, I enjoyed an hour long "Twitter" chat (but also a google hangout chat), about investing. Not only was the tagline catchy #GetOffYourAssets, but I also got to mention Beanie Babies, so it was pretty much the best use of time...ever.
The four chatterboxes included Me, Arindam Nag, founder of Centsai.com, Shannon McClay, founder of the Financial Gym, and Eric Follestad of Titan Capital Management. When we introduced ourselves at the beginning of the chat, I realized that I was probably the least qualified person on the chat to talk about investing. For one thing, I don't have any letters after my name, for another, I've never worked in the financial services industry, and finally, I don't exactly have the best track record when it comes to investing.
However, to my credit, I have learned an awful lot about investing, and I also have a decent understanding of the most important investing principal of them all. The secret that I learned? Personal finance is more important than portfolio management.
I don't want to undermine the importance of a disciplined investing strategy, but I believe that the best way to achieve your life goals isn't just to invest for them, but to align your life and your money in a way that makes succeeding in your goals more likely. As I so eloquently (not eloquently at all) stated in the chat, investing is just the wind in your sails, personal finance is the ship, and you're the captain (and crew).
Without further ado, here are five reasons that personal finance trumps portfolio management.
1. Goals matter more than portfolios
Investing is only good for one thing. It helps your money make more money (if done correctly, over time, and assuming capitalism doesn't collapse). Investing will help you meet future financial needs without requiring you to work for every dollar, but you have tons of goals that you can meet without investing at all.
Maybe you want to teach your kid to fish. You need access to fishing gear and some time, and a sunny day. Nailed it. Goal achieved.
Maybe you want to read the Western Canon. Access to a Kindle or to a public library will likely get you all you need (except for the time required to read all those dreadfully boring books).
Maybe you want to become the VP of your division, or to start your own company, or to earn $250K in a year just because it's something you'd like to do. Maybe you want to spend a few years giving dental care to refugees in Eastern Europe.
A lot of these goals can be achieved without much money to your name at all. If you really want to do something thats important to you, you can often achieve that goal without investing at all. I don't mean that it's always a good idea, I just mean that you can achieve important life goals even if you suck at investing.
2. No financial stress > Big piles of cash (or big investment balances)
I like big balances, and I cannot lie.
You other investors can't deny.
When you log in and see mad commas in their place,
and positive alpha stares you in the face,
you get pumped.
However fun big investment balances are, they are not nearly as fun as having your finances under control. When your finances are out of control (usually characterized by spending exceeding your income), you will be enslaved to your money and your lifestyle. When you begin to boost your earnings and cut back on unnecessary spending, you'll be able to exercise self-control and find one less thing to stress you out.
Even if you never achieve a high level of wealth, you'll be a much happier person if you eliminate financial stress from your life.
3. The happiness set point is a big deal
Most people have an idea that a huge pile of money would make their life better, but as it turns out, there is a huge body of evidence called the happiness set point theory that contradicts that belief.
If you think that money will make you happier, I have some bad news for you... it won't. That's why point number two is such a big deal. If you can eliminate financial stress, you will be happier, but if you have a huge investment balance because you're a rockstar investor, you won't be much happier.
4. Savings trumps investing for an unbelievably long time
Great investors who aren't great savers, won't get rich very quickly. Warren Buffett, one of the best investors of all time, has averaged 22% in returns for the last several decades. If you're a pretty bad investor who doesn't sell too often, you can probably average 5% returns.
Let's say you've got a friend who can average returns like Warren Buffett, but he only puts away $5000 per year because he's not earning very much money. Now you, are earning $100K a year, so you can put away $50K per year. How long will you have a bigger nest egg than your friend? It turns out that he'll surpass you in a little over 20 years.
Honestly, it's way easier to figure out a way to set aside $50K per year than it is to earn 22% returns in any investment vehicle including paid for real estate.
5. You can adjust more rapidly than your portfolio can
You can rapidly change the way you manage your finances. You can adjust to job loss and new opportunities. You can cut your spending or increase it. You can earn more money or earn less. The only thing you have to change when it comes to your finances is you.
On the other hand, it's nearly impossible to rapidly adjust your portfolio and manage it well. It's incredibly important to stick with your investing strategy even when your personal situation changes (at least until it is fortuitous to adjust your portfolio to deal with your changes).
If you're constantly tweaking your budget, you're probably doing something right (or annoying your spouse), but if you're constantly tweaking your portfolio you're probably just wracking up a bunch of trading fees (but please, rebalance sometimes).
Within a certain range of life events (both good and bad), its reasonable to expect that you can make decisions to spend less or earn more to enhance your cash flow and your balance sheet. On the other hand, it's really difficult to make decisions that will increase your expected investment returns (beyond learning the basics about investing).
I'm a wife, a mom, an employee, and a personal finance nerd who is devoted to spreadsheeting my way through life.