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June 17, 2019 Article 6 min read

What is a “capable” investor? And why is it so much better than being an “average” one? Here are six traits of capable investors as they work toward creating and protecting wealth.

A man and woman are talking while seated at a table.

When you hear the term “capable investor,” what comes to mind? Knowledge? Experience? Confidence?

The fact is that “capable” investors don’t have all the answers themselves. Rather, they’re empowered by others to make smart decisions and, in turn, can empower their own family members in the same positive way.

We covered the topic of creating capable investors in depth at the second annual Plante Moran Wealth Management Summit last year. I joined my colleague, Jeremy Tollas, a relationship manager with Plante Moran Financial Advisors, for a discussion moderated by Partner, Cheri Stein of Plante Moran Trust. In our conversation, we explored the ways that we can instill investing confidence in those in our circle — our families, staff members, and so on — and help them avoid becoming yet another average investor.

To differentiate between average and capable investors, let’s consider a quote from famed investor Warren Buffet: “Risk comes from not knowing what you’re doing.” Risk also can refer to making the same mistake continuously. And, in the case of many “average investors,” it can come from an action they think is the correct one but, in reality, may be based on investor euphoria, investor despair, or some other investor emotion along the market’s emotional roller coaster. As such, for the 20-year period of 1999–2018, the “average investor” underperformed virtually every asset class, barely keeping pace with inflation.

In light of this, let’s turn our focus to what really makes an investor capable versus being just average, by exploring six common traits you find with capable investors.

They don’t rely on emotion.

This is often the first characteristic that delineates “average” from “capable.” You can compare it to being the head coach of a college or professional sports team. When a baseball manager decides to bring in a new pitcher, that decision is based on statistics and data, not emotion. The same should go for investing. If you take the emotion out of your decision-making, you’re likely to find yourself in a better financial position.

They have a plan and remain disciplined.

Sticking to a plan can be tough — especially with all the “noise” that surrounds us today. That noise can come from so-called financial experts on TV, stock market updates on your smartphone, promises made by politicians pertaining to the financial world, and more.

The key is to have a disciplined management process that allows you to analyze your current position and create an optimal portfolio to fit your needs.

The key is to have a disciplined management process that allows you to analyze your current position and create an optimal portfolio to fit your needs. It should consider concepts like risk and return, diversification, the theory of compounding interest (having your money make money for you), lump-sum investing versus dollar-cost averaging, while also considering inflation and tax planning. Changes can and should be made, but they shouldn’t be based on noise.

They aren’t traders, and they don’t rely on their “gut.”

Average investors are prone to knee-jerk reactions and gut feelings. They may chase the winners from last year, hoping they continue to rise; chase the losers from last year, convinced things have to change; or go all-in on a “hot tip.” However, hearing about a “hot tip” and deciding to invest in it without research or outside consultation can have disastrous results.

Capable investors avoid knee-jerk reactions and embrace a long-term financial plan. They make the volatile times more manageable by diversifying their portfolios, thus better protecting against downward swings in specific sectors or other concentrated areas of the market. They don’t fear corrections.

Market corrections aren’t uncommon; in fact, over the last 30 years, market corrections (a decline of 10 percent or greater) occurred in a given calendar year more than half of the time. Dating back to 1900, the average length of a market expansion has been 47 months. During that same time frame, the average recession has been 15 months. When looking at the six-month period after each recession since 1948, the market has seen an average positive 11.7 percent return.

Despite this data, market corrections are feared; many investors equate them with the time frame of a potential recession, and therefore, attempt to time the market. This is not a good idea. Not only are you likely to miss returns, but when you try to time the market against a correction, you have to get two decisions right regarding timing: when to get out and when to get back in. Getting one decision right is hard — getting both right on a consistent basis is almost impossible.

They ensure family members have financial planning education.

“Capable” investors want to help set their family members up for success as well. The best way is to dive right in.

In other words, it’s important to get family members, and in particular, children engaged early. Having your children research charitable organizations for donations, begin budgeting by high school, manage their own bank accounts in college, and having them begin retirement savings immediately upon starting their career post-college graduation can introduce them to healthy financial planning concepts and habits much earlier than their peers. To illustrate the benefit of getting started early, let’s take a look at a simple example. Let’s assume a recent college graduate begins investing $2,000 a year from ages 22–32. Based on a post-tax hypothetical return of 8 percent per year, this individual is likely to have nearly $400,000 at age 65, even if they never invest another dollar after the age of 32. Conversely, an investor who gets started later and invests $2,000 annually starting at age 34 and continues for 31 years is likely to only have $265,000 at age 65, assuming the same post-tax return.

Hearing about a “hot tip” and deciding to invest in it without research or outside consultation can have disastrous results.
Additionally, we feel it’s important to remember that what has been seen can’t be unseen. Parents don’t need to share too much information about their specific situation too early, rather you want to keep your kids hungry for success while giving them the tools and confidence they need to make smart decisions.

Finally, as children are closer to, or considering marriage, there may be a need to discuss prenuptial agreements as a method to protect their interests in the event of a divorce. If the specific situation calls for a prenuptial agreement, it’s best to have these conversations early so that your child views the conversation as centered on protecting his or her interests rather than being viewed as an opinion on the person they are to marry.

They are aware of — but don’t overreact to — trends.

Perhaps one of the most talked-about investments in recent years is cryptocurrency, specifically bitcoin, which has made headlines around the world because of its roller-coaster valuations. Capable investors may be intrigued by this or other investments highly commented on in the press, but they recognize that they should only embrace any investment after determining how it fits within their larger plan.

The bottom line

“Capable” investors remain disciplined rather than emotional, ignore “noise,” stick to a plan that’s adjusted based on non-emotional facts and circumstances, and get family members the resources they need. By following these guidelines, they and their family are more likely to achieve success with their financial plans.

For more information on becoming a capable investor, give us a call. Our wealth management team is independent, objective, and has your best interests at heart. You can count on our experts to stay current on market conditions and help you develop and stay true to your financial plan.