In the early 1990s, I studied for the Chartered Financial Analyst® (CFA®) exams. From March to June, I’d lock the television in the closet and spend my evenings with some of the driest reading material ever committed to the page.
In the mornings, I’d use my bus ride from Irving Park Road to Chicago’s South Loop to read about great investors (John Train’s Money Masters, Roger Lowenstein’s Buffett: The Making of an American Capitalist, Peter Lynch’s One Up on Wall Street). I attended classes in options trading at the Chicago Board of Trade.
It was a new way to see the world. Unlike Warren Buffett, I’d never before looked at the purchase of a dining room set as the agonizing loss of capital that could have compounded for another 20 years.* The reading and classes were related to my job, but I was confident that I’d also reap a big personal benefit. By absorbing the wisdom of leading investment theorists and practitioners, I would be in a better position to reach my own financial goals.
At the margin, that may be true, but the immersion in investments has had less bearing on my personal financial goals than lessons learned when I opened a passbook savings account as a child. If I could offer one piece of advice to new investors, it would have less to do with high finance and more to do with Poor Richard: Save.
From modern finance to Franklin
“C’mon, Andy, is that the best you’ve got? ‘Save’?” Sorry, my internal monologue cut in. But to answer the question, “Yes.”
(How to manage those savings? See Vanguard’s principles for investment success.)
In one of my favorite Vanguard research papers, Penny saved, penny earned, Maria Bruno and Yan Zilbering illustrate the importance—and power—of saving in a way that’s both illuminating and devoid of the scolding tone that occasionally creeps into articles about diet, exercise, and saving. They treat saving, not as a moral imperative, but as a variable in the equation that determines our financial results.
The researchers simulated the growth of different portfolios using various assumptions about salaries, savings rates, and asset allocations.** The table below is derived from their research. It compares the value of a portfolio produced by an initial retirement plan with the values produced by a plan that makes a change to one of three “levers”:
• Asset allocation.
• Savings rate.
• Savings time horizon.
More saving, less risk
The shift to a more aggressive asset allocation produced, on average, a significant increase in wealth, the result of the stock-heavy portfolio’s higher returns. These higher returns weren’t without higher risk, of course. In the worst-case scenarios, this more aggressive allocation produced less wealth than its moderate counterpart.
A change in savings habits, by contrast, turned out to be a strategy for all seasons. Even if an investor retained the moderate asset allocation, an increase in the savings rate or an increase in the number of years of saving led to a bigger gain in portfolio value than the switch to a more aggressive allocation.
The effort to reach our goals is like a partnership between us and the financial markets, and most of us need exposure to the stock market’s potentially higher returns to get the job done. The more we can rely on Ben Franklin’s copybook maxims, however, the less we have to depend on the stock market’s potentially generous but erratic returns.
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* Lowenstein, Roger, 1995. Buffett: The Making of an American Capitalist. New York: Random House, p. 87.
** More details about the data and assumptions used in the calculations are provided in the paper.
• All investments are subject to risk, including the possible loss of the money you invest. Investments in bonds and bond funds are subject to interest rate, credit, and inflation risk. Diversification does not ensure a profit or protect against a loss.