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Thin(k) About Your 401(k) Plan: Work Your Core – Five Core Investment Principals

During the middle of the market downturn towards the end of 2018, I found a truly incredible opportunity in an asset backed by the US Government and in about 45 days it generated an annualized approximate return of 117%.  What incredible, riskless investment offering such astounding returns did I find? It was the Forever Stamp!  And guess what?  The US Government told me, well in advance, that the value of this commodity was going to increase from $0.50 to $0.55 on January 27, 2019.

Okay, there are numerous logical flaws to the above story, but while we watch the volatile markets during the time of the COVID-19 Pandemic, it offers a good reminder of the five core principles for investment.  Let’s examine how each negatively or positively impacted my decision whether to go long on Forever Stamps.

  1. Discipline is Everything. It’s tough to apply this principle to my stamp example because it would tell us not to chase recent performance and stick with a well-researched strategy.  However, why wouldn’t I invest in something I know is going to increase in value by 10% on a given date?  Here’s why:  you would have to forego or sell investments from your long-term approach in order to make the investment.  Further, once you owned the stamps, you would have a commodity that holds only a small value per individual unit that would have to be sold to someone else.  Maybe you could sell them alongside your children at their lemonade stand, but you would likely need to go at it for a long time to realize a substantial dollar measured profit.  Sure, the percentage gain per unit sold is incredible, but ultimately it is dollar gains that move the needle in a portfolio.
  1. Investing is both Art and Science. This principle seems a bit simpler to apply.  First the science side of investment analysis would tell us the opportunity to make money buying Forever Stamps is as close to a sure thing as we will ever see.  But when we move back to the art view of things, I would ask myself how many letters will I send in a given year.  If I were a voracious writer who doesn’t use email, then perhaps the purchase makes sense.  However, in this scenario we have shifted the conversation from investing to consumption.  While Forever Stamps may increase in value forever, the benefit of the investment lies in either its usefulness down the road – consumption – or one’s ability to liquidate at the appropriate moment – investing.  And, here we are again, back at the crossroads of how do I get rid of these things in enough quantity to make it worthwhile.
  1. Time Matters. Time is a trickier component in this example because a long-term view of the Forever Stamp could easily lead one to conclude that it is an asset to own forever.  After all, the value is guaranteed by the US Government and simple research would show the price of a stamp has only gone up.  Unfortunately, that analysis ignores the question of why has the price of a stamp only increased.  Who is to say where the US Mail system will ultimately land or when, but clearly the cost of delivering a letter is going up and therefore the cost of a stamp is as well.  However, there are many new and efficient communication options such as email and social media competing with the US Mail.  Down the road, the price of stamps could go up forever, but my guess is that at some point the elasticity of demand is reached and the price will have to either stabilize or even come down.
  1. Depth of Research forms Decisions. This principle offers us a bit of a repeat.  By not deeply researching the various aspects of the investment in Forever Stamps, you might make the deal because of the return alone.  However, this action fails to answer crucial questions like: how do I monetize the return; what will the dollars earned per unit translate into when measured against the effort required; or how long will the price hold up even though guaranteed by the US Government.
  1. Risk Must be Considered. While the risk of the price of a Forever Stamp falling might seem next to impossible on the surface, nothing is truly guaranteed.  The US Postal System is competing with other forms of communication and therefore subject to pricing risk over the long-term.  I have left a key consideration to the end.  The Forever Stamp has a guarantee for sure.  That guarantee is that it will always be able to be used to mail a letter in the US.  But it does not guarantee the value of the investment.

In summary, every investment must hold up to the five principles above and that is not an easy feat.  The Forever Stamp with a certain increase in price generating a measurable return at a given point in time was not able to meet even one of the principles.  When I was studying for my MBA, an accounting professor taught me an important lesson that remains with me today and will forever – “There is no such thing as a free lunch.”

Here’s more about ThirtyNorth’s five core principles.

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