Investing is Chess, Not Checkers
I have to admit I am not much of a chess player. But the times I have played, the opponents were quite the chess players. Or maybe I was just that bad!
Either way, I understand the game of chess. In order to be good at chess, you must have a strategy in terms of when you want to move the pawn versus the bishop versus the knight.
But what the great chess players I have seen have in common is that they have a strategy and an ability to see opponents’ moves before they happen. Despite the opponents’ moves, they stick to a broad based strategy, such as not moving the king or bishop or whatever piece it is first no matter how the other persons move. These great players protect their Holy Grail, the king, by positioning the other pieces appropriately.
To non-chess folks who are looking to reach savings goals of buying a home, paying for college tuition or retirement, investments should be the Holy Grail. It is necessary to create a strategy that isn’t altered, despite the opponents’ (outside forces) moves, we must protect the king.
Just because we are in investments doesn’t mean we just invest in individual stocks!
Whenever I meet someone new or even hang out with personal friends, I tend to get questions about “the hot stock” when we start talking about work.
It tends to go something like “hey Matt, what’s the new hot stock you all are investing in?” Unfortunately, not many people are excited with my answer because it isn’t the new marijuana IPO or penny stock but established companies like Home Depot, Coke and IBM.
Eventually these individuals get that hot stock tip and for some reason come back to me and express their excitement with their new find. As their excitement oozes out of them, I am left thinking “idiot!”
Before they even tell me the stock, they have already invested $5,000 or $10,000 into the stock. Then, the next time they find that hot stock, they invest another $5,000 or $10,000. Continuously through this process, they tell me they are diversifying because they aren’t putting too much in these individual “gambles.” Years later, they are left with a portfolio of, mainly, crap and wondering why luck didn’t go their way.
To me, this is the same feeling as I usually have when I leave Vegas… every time! Really what people that look to make uber millions off of individual stocks are doing is gambling. It isn’t too often that we hear of people winning enough in Vegas to buy their dream house, or that boat they wanted or winning enough to retire that day. So, why would someone want to bring that same strategy into their Holy Grail?
The cost of hot stock tips is a lot (to lose)
Statisticians should skip to the next section immediately. The scenario that we will play out next is more for visual purposes, not statistical purposes. But to those that pay (I mean play) the lottery, there is hope.
The odds of winning the lottery (the Mega Millions) are 1 in 259 million. The Mega Millions only does drawings on Tuesday and Friday. Based on 2013, that means people have 105 opportunities a year to get a ticket, which are a dollar apiece. The largest jackpot was $462 million (cash value) back in 2012.
So, based on the odds, we could buy one ticket a day and never win… that’s not too shocking. But in order to win, at least once (based on the odds), we would need to buy 25,000 tickets (or spend $25,000) each Tuesday and Friday! This gets costly because that means an individual needs to spend over $2.6 million a year.
Here is the kicker, even if you spend that $2.6 million per year, you better also live until nearly 99 years old to get your payoff because that’s when your odds would come around! On the bright side, you would be net positive (what you put in versus the jackpot) as long as the jackpot was more than 259 million because that is what you would have spent over your lifetime on lottery tickets.
This scenario isn’t likely for the majority of us, but spending $10 on lottery tickets per drawing is. And this still means that over 55 years we would be spending over $57,000 on lotto tickets. Whether we win or not, it tends to be a better bet to put those monies that would be spent on lotto tickets every year into investments that can grow: feed the Holy Grail!
Be Coke, not Pets.com
Coke is a stalwart that has been around for years. The company is a household name that has built up a reputation globally, not just domestically.
What can we learn from Coke? They have created a foundation on which they can build. The bread and butter for Coke is the soft drink (or as we like to call it in the South, Coke). They have ventured into other areas with sports drinks, water, etc. But they never stray too far from their foundation.
Because Coke has created a solid footing, they are able to create new means to promote their products and stay up with the times. They are able to take risks with new technologies and new mediums of disseminating their message. Not all of these win, but because they aren’t putting their Holy Grail at risk, they are able to take some gambles.
Of course, Coke isn’t likely to see the type of growth that a startup will and they likely won’t take the innovation risks that a Snapchat or Facebook would. Thus, they won’t see the pops that these companies have seen.
But for every Google or Facebook an investor finds, they find many more pets.com or WebVan’s. And for many of us the ability to gain access to these startups and reap any meaningful return is very tough. Thus, it makes more sense for us to position the pawns, bishops, knights and rooks and protect our Holy Grail.
Create Your Chess Strategy
We look at the strategy as being a core satellite strategy. Attached is a drawing that breaks this out a little deeper for visual learners.
For simplicity purposes, the idea is that you must create your core allocation before moving into a deeper segment of investments. A core allocation would be very broad (i.e., large cap, small cap, international equities, etc.). These areas are broad and encompass a lot of the market place; they are diverse.
Then investors would look to move deeper into each of these broad categories. One way to do this would be getting sector exposure. So, for large cap stocks, maybe we want the S&P 500 (the 500 biggest companies) as our broad exposure and then the next step in would be getting exposure to the technology sector.
Once we have delved deeper one step from all the very broad categories, we are able to begin taking more of those gamble plays. But because our foundation is created, the risk to the Holy Grail becomes less.
Investment success isn’t just finding that hot stock tip; it’s a strategy. The reason that the Warren Buffetts of the world have been successful is that they have not chased the hot stock. Rather, they have committed to a consistent strategy that entails buying quality and holding it. They created a foundation and this foundation has created them a Holy Grail.
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