Investing 101

Chapter One

Exorcising Your
Demons

This book is going to tell you how to invest wisely. It's simple. It's straightforward. You'll get step-by-step instructions. Anyone who reads and follows the directions will find it's easy to do.

    But following even the most logical instructions may be difficult if, like many people, you've developed a bad habit or two over time. In fact, we all have our demons—our little psychological hurdles that stop us from doing the things that we know to be logical, reasonable, and smart.

    Some of these hurdles are caused by our upbringing or culture; some seem to strike men and not women—or women and not men. But no matter the cause, we need to get over them if we're to have any hope of investing wisely enough to have more money than regrets in our old age.

    I'm not a psychologist, so you shouldn't expect that buying this book is going to save you from a lifetime of therapy expenses. In fact, I don't know what particular complex or syndrome or shortcoming affects you. But following the adage that "recognizing the problem is the first step to fixing it," I can tell you some problems that I've seen frequently over the years and whom they usually seem to strike, as well as a few simple moves you can make to overcome each obstacle.

* * *

Women

By and large, women start investing later in life than men, set less money aside, and invest more conservatively. That has the unpleasant effect of leaving them poor in theirold age. Some 80 percent of the elderly people living in poverty are women. So what's their excuse?

   [] The poor girl: "I would invest, but I just don't have the money," says the perfectly coiffed twenty-five-year-old as she slams the door of her BMW in the mall parking lot. "I'm going to start just as soon as I get a raise."

   OK. That was a slight exaggeration. And we all know that women do earn less, on average, than men. It would be easier to save if you earned more money. But sometimes life is just not fair. Get over it.

    Now, be fair with yourself and answer honestly: When was the last time you bought lunch or dinner at a restaurant instead of going for the cheaper alternative of packing a sack lunch or making your own dinner? When was the last time you bought a suit, sweater, skirt, or pair of shoes that you knew you didn't need? (And if you said "Never," just how exactly did you define the word need? Did you need it because you wanted it really, really bad? Or because it was on sale and you might need it before it was next on sale?)

    If you have a job that pays a decent wage—that's anything that keeps you above the poverty line—you can afford to invest. Spend $2 less per day—that's the cost of one less Starbucks coffee or one less soda and crackers from the junk-food machines—and you've got $60 a month. That's enough to plop into an automatic investment plan with a mutual fund.

    Still think it's a matter of poverty, not spending? Do this: Start carrying a notebook around with you. Jot down every expense, from the $1 coffee to the $25 you spend filling up your car. Review your notebook after a month. Add up the things that weren't necessities. Vow to cut those by half (or, if you couldn't stand the deprivation, by one-quarter). Put the amount you're no longer spending into savings. Voilà.

    [] The substitution shopper: Speaking of shopping, is this what you do when you have a fight with your boss or your spouse? Do you find that you "need" a good shop whenever you're feeling down, as a way of boosting your spirits?

    The bad news is your credit card balance is likely to rise faster than your spirits. As a result, you're sentencing yourself to a life of servitude—working harder or more hours to pay your debts, which makes you all the more depressed.

    If you need to get rid of your boss or your spouse, stop spending and start saving. What will make you happy now and forever is knowing that you've become financially independent enough to tell whoever is bugging you to shove off.

    But shopping really does make you happy? OK, shop. But leave the credit cards at home. Shopping may make you happy, but overspending makes you poor.

    [] The martyr: "How can I save for myself when Johnny needs a new soccer uniform and we haven't even gotten close to funding Susie's college account?" you whine. Heavens to Betsy, your honeybunch is wearing a gravy-spotted tie, and you just know that he would be happier and more successful at work if you just sacrificed a little more to get him some nicer duds.

    Certainly, it would be nice to think of yourself once in a while, you admit, but how can you when you're so busy being the family caregiver? After all, somebody has to take care of the rest of the family, and no one else has stepped up to the plate to do it. So all of your worldly concerns are going to be put on the back burner until you take care of theirs—today, tomorrow, and forever. Right?

    Consider this: if you are strong physically and financially, you can solve a lot more problems for your family than if you're weak. That's precisely why young moms need to balance their long-term financial needs with the pressing day-to-day expenses of managing a young family.

    Vow to set some priorities, and make your retirement account one of them. If you are working and have access to a company 401(k) plan, contribute to it. It is, hands down, the best way to save for your retirement needs. If you don't have a 401(k)—if you don't even have a paying job—set up an automatic savings account with a mutual fund (see Chapter 12). Even if all you're saving is $50 a month, you'll have started taking care of yourself and making yourself financially strong. You owe that to yourself and to your kids.

    [] The princess: Why save and invest yourself when there's always been someone willing to take care of you? First there was Dad. Then there was your husband. Both of them are kind and thoughtful and wonderful providers.

    But what happens if they both predecease you? Women usually live longer than men.

    Then there's that other uncomfortable fact of life: About half of marriages end in divorce. Are you prepared to take care of yourself if you're forced to because of death or divorce? Roughly 90 percent of women are going to need to take care of themselves economically at some point in their lives. Think about it.

    Then start reading about investments. Put a toe in the market by joining an investment club or starting a monthly investment program with a mutual fund. You can learn about mutual funds in Chapter 8. If you want to join an investment club, you can find information on the Web at www.better-investing.org.

* * *

Men

Although men usually have more money than women, they still make some surprising mistakes. Sometimes they invest too aggressively; sometimes they worry too much, second-guessing their best judgment; sometimes they get so caught up in saving and investing that they forget what the money is for. By and large, it appears that the bulk of their problems stem from one thought: This is a game. I've got to win, either for the pure competition or for the spoils. Such thinking produces the following types of investors.

    [] The unrealistic pessimist: You go to a cocktail party and start talking to some guy. He's wearing a nice suit, he's confident, and he starts telling you that he's making a killing in the stock market. "Yeah, I doubled my money on Amazon.com in three months," he brags. "Then I bought this little penny stock, and whammo! It tripled in value!"

    You stand there quietly, wondering why you've been doing it so wrong. Here you are investing in companies with track records, earnings, sales, and supposedly skilled managers, and what is your portfolio earning? A paltry 10 percent to 15 percent per year, you grouse. "What kind of loser am I? Why didn't I buy that penny stock?" you think. You begin to question your whole investing strategy. You need to be more like that guy ... that cocktail-party guy.

    You go home, and you buy some of that guy's stock. Maybe you sell some of your boring stocks and mutual funds. When you lose money on those new investments, you know that it's your fault. You're a loser—not a winner like that cocktail-party guy.

    Naturally, what the cocktail-party guy didn't mention was that two weeks before he met you, he was downtrodden because his portfolio had declined in value by half, and he was wondering whether he'd have enough cash to make his mortgage. Why didn't he tell you about that? Well, it's not really cocktail-party chatter, is it?

    But you should know that anyone who makes a fortune overnight can also lose a fortune overnight. Risk and reward go hand in hand in the financial markets.

    If you have thought out a reasonable investment strategy, stick with it. Don't be derailed by a big talker.

    [] The unrealistic optimist: You bought a stock figuring that it was going to go to $50. Then lo and behold, it popped up to $65. Based on all of your market knowledge, this is an incredibly high price for this stock. Its price/earnings ratio (see Chapter 5) has never been this high, and you can't imagine why it might be now. And yet, if it went to $65, it could go to $70, right? Maybe you ought to hang on just a little longer and see.

    The fact is, the stock could go higher. Or it could go much, much lower. Every time you buy a stock, you should have a target—a price at which you would either sell the stock or reevaluate its prospects before you decide to leave it in your portfolio (see Chapter 6). Don't let emotion—regardless of whether that emotion is fear, greed, or hope—rule your actions.

    Financial markets are mathematical. Do the math. Make the evaluation. Live with the idea that you may never sell at the peak. That's OK, as long as you also don't sell at the nadir.

   [] The ostrich: You don't have a loss until you sell. Sure, the market price may have dropped, but until you sell, there's hope that the company and the stock will recover, and you will be safe to brag at cocktail parties again. For this reason, many a man holds onto a money-losing stock until it loses everything but its wallpaper value.

    Evaluate your stocks once a year. Make reasonable decisions about whether each one is a buy, a hold, or a sell. If you realize that you wouldn't buy a stock today given its future prospects and that there are better opportunities out there, sell it. Take the tax deduction. You'll lose less money and less sleep in the end.

   [] The tinkerer: You saw it on Tool Time. You do it in your portfolio. Here you have a perfectly functioning item, be it a lawn mower or a stock. But you know that if you just fiddle with it a little bit, you could make it better.

    When you're dealing with tools, the worst thing that can happen is you'll have to replace them. When you're dealing with your portfolio, the stakes are considerably higher. But now that you can check your stocks on the Web—and trade for just a few bucks a pop—it's particularly tough to leave well enough alone.

    Many tinkerers are particularly apt to sell stocks when they've got a bit of a profit. "Lock that in," they say. Naturally, if the stock keeps rising, they've missed out. Worse still, every time you sell a stock at a profit in a taxable account, you not only have to pay a trading fee, you also pay tax on the gain. If you held the stock for more than a year, that tax will be at capital gains rates, which max out at 20 percent; if you've held it for less than a year, the gain is taxed at your ordinary income tax rates, which are sure to be higher. Either way, to make up for the taxes you pay, you'll have to earn more than a 20 percent return on your next stock purchase just to break even. Don't trade just because you can.

    [] The believer: On Wall Street they call some companies "story stocks." They're companies without track records of good sales and earnings, but their managers have a great tale to tell. They've got prospects. It's easy for almost anyone to get caught up in the euphoria—to imagine that this twenty-seven-year-old wunderkind will be the next Bill Gates, capable of carrying you into the realm of the rich and famous. But at some point you've got to look at the numbers. If the numbers don't support the story, you've got to ask yourself whether this stock belongs in your portfolio, regardless of how much faith you have in the tale.

    How do you do that? Frankly, it's tough. But plowing along oblivious to the numbers is the investment equivalent of failing to stop and ask directions. If you are not certain how to evaluate a story stock, seek out information on that industry. Read everything you can. Consult experts. If your story stock happens to be in the technology industry, check out Chapter 5. It's got some tips on how to survive and profit in an industry full of fish stories.

    [] The money-lover: You invest every dime, often scrimping and saving to do it. And thanks to this superfrugality, you have a lot of money saved and invested. But it's not enough, you theorize. It's never enough. So you work extra hours; you skip vacations; you urge your spouse to do the same. All the while, your riches are growing bigger, and you are growing older.

    Before you postpone one more vacation or miss one more baseball game, stop and consider what all this money is for. What are the things in life that you hold precious? Have you saved enough to buy those things? (You can answer that by completing the worksheets in Chapter 3.) In fact, is your emphasis on saving robbing you of enjoying these things? If so, slow down. Step back. Reevaluate your actions.

    Too many men work themselves into ulcers, heart attacks, or divorces in a quest to get something that they already had but were too busy working to notice. Evaluate how much money you need for your personal goals. Figure out how close you are to accumulating that amount of money. Then, once you have more than enough, relax. Enjoy it. Spend your time with your family and friends rather than your portfolio. That's what the money is for.

   [] The fool for love: OK, you were in that last category. And you know it probably cost you your first marriage. But you also know that your current wealth is the reason all those beautiful young model types are interested in you. You've got to keep it up so this gorgeous girl, twenty years your junior, will agree to marry you and let you buy her a three-carat diamond and a Porsche.

    I'm not going to tell you you're wrong. There are definitely women who marry for money. Women who won't marry for money like to call the women who will marry for money "bimbos." It saves us time. After all, the term "women who will marry for money" is so wordy.

    So let's say you do get to marry a bimbo. You go home at night and admire her perfect hair, her manicured nails, her sculptured figure. You know you're the most envied man in the room when you walk into a party with her on your arm. You love how she doesn't interrupt when you tell her a long story about your latest success at work. And when you ask her a question, you think it's so cute the way her lips purse before she says, "Huh?"

    But keep in mind a few words of wisdom about bimbo Darwinism: While you know twice as much as she does about business and investing, she knows twice as much as you do about the community property laws in your state.

    As your mother used to say, "Be careful what you wish for."