WHEN are investments for?

Cuidemos_las_plantas_del_medio_ambienteMost people understand to some degree, what investments are for – presumably for “their goal,” whatever that goal may be. Most people though, miss the difference between what and when investments are for.

So, what is the when of investing? Investing by definition means money for the future; contributions buy shares for the future, and shares you already have are for the future. So markets today at any price don’t really matter. What matters is the market price of those shares in the future each month as you withdraw funds … presumable monthly for retirement .. but any time the goal for the money reached in increments or all at once.

First, the reason people have issues with the difference between what and when is mostly confusion between the difference between saving and investing. As the SEC site states, savings are for short term access to money, while investing involves potential loss of your money. Investing wisely reduces the risk of total loss of your money. But this means the value of your money may go down. So wise investing also means putting this money aside for your future (the when I’ve been talking about). Given enough time, wise investing may grow the value of your money in the future.

So this circles back to when of investing paragraph above. Most people understand this. But, then promptly forget this when markets misbehave. If your goal isn’t here yet, it doesn’t matter what today’s value of wise investments are. If some, or all, of your goal has arrived … that money shouldn’t be invested – it should be saved.

 

Lastly … we have 2 blind spots that stop us from investing * … that relate to the when of investing.

Quote: The first is a tendency towards putting off decisions that are likely to benefit us in the long run, but which also involve short-term costs. It’s a form of procrastination which economists call present bias, and the researchers found that about 55% of us are prone to it.

The second bias is a failure to understand the power of compounding investment returns and how this can build wealth over decades of saving. The researchers refer to it in their paper as exponential-growth bias. Nearly 70% of us, they found, fail to appreciate the benefits of compounding.

Interestingly, the study also concludes that present bias and exponential-growth bias are two distinctly different blind spots. The message for policy makers and the investment industry is that attempts to persuade people to invest more should focus on these two biases separately.

And what are the lessons for individual investors? First, obviously, you need to be aware of these biases. But also, crucially, you need to realize that you yourself may be prone to them; indeed the odds are that you are affected by at least one, if not both, of them.

So, don’t procrastinate. Start investing now. If you need to invest more, invest more. And remember, the longer your money compounds, the faster it will grow. Unquote* (I couldn’t have said it better!).

Present bias translates into delaying starting because today’s money is more important to you. But, because of the delay, you’re closer to when you need money. Investing becomes a problem then, and a lower value leads to inappropriate actions where you lock in that temporary loss because markets always misbehave along the way over time (temporary – assuming wise investing, versus imprudent investing trying to make the markets makeup for your loss of time – your fault you have less time).

Because you have less time – compounding has less time. You cut off the growth tail at the end – the part most people don’t understand as the consequence of delay. Related to the retirement goal – the time element is for the rest of your life … not for the one single moment you retire or retired.

Moral of the story: You understand the what the money is for – but you also need to deeply understand the when the money is for … and the when is more important than the what!

 

Bonus – pick any time in the past and look forward from there in the video below. You can see that, yes, for brief periods of time the market may go down, but for longer periods the trend is up – even during bad news events (events trigger market reactions). The past does not predict the future.

*Posted by Robin Powell on April 12, 2016 at “The Evidence-Based Investor” with link to the research.

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Photo by Ramosperalzhim (Own work) [CC BY-SA 3.0], via Wikimedia Commons

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