Q&A - Comparing rates of return
Question: Justin – Any tips for how to deal with all the stories of people getting rich quickly by making big bets on individual stocks, crypto, or some of the new alternative investments? A couple of acquaintances have bragged to me about their rates of return recently and I am starting to have a case of FOMO.
Answer: This is a very good question without an easy answer, but I have a few suggestions.
First, remember that the stories you hear, the articles you read, and the social media posts you see are heavily biased toward positive outcomes. Who is more likely to tell you a story or make a post on social media? The person who bet big and it paid off or the person who took a gamble and lost a bunch? Mistakes are often swept under the rug.
Second, your finances should not be a competition against anyone. Not your friends, not your family, not your colleagues. Someone else is always going to have more money than you. Someone else is always going to have a better return on their investments than you. Striving to make more money on your investments than everyone else is a recipe for eventual disaster.
Third, think about what you are willing to risk. Strategies with very high potential rates of return also have high chances of failure. If your financial plan has you on track for financial independence at 55 by using unexciting diversified funds, are you willing to risk that for the possibility of making a bunch of money day trading stocks or buying the newest alternate investments? If you take the risk, it works out well, and now you could be financially independent five years sooner, will that make your life significantly better? If not, do not take the risk. If it would, then decide if the extra happiness you would feel would be greater than the sadness and regret you would feel if the investment fails and you added many years to your financial independence plan. I hope these suggestions reframe the problem in a helpful manner.
Diversification does not guarantee against loss. It is a method used to manage risk. 3605200/DOFU 5-2021