What Determines Investor Success?

by Paul Ruedi

 A lot of people feel they could write the book “Why do investments work for everyone but me?” Others seemingly can do no wrong when it comes to investing without even trying. Why is that? There are only a handful key factors that determine what type of an investment experience people have and whether or not they are successful as an investors. These, in the order of importance, are:

1. Investor Behavior: This is by far the most important factor influencing investor success. Is the investor a patient buy-and-hold investor or someone who was constantly reading news articles and acting on their every emotion? When you consider the irreparable damage panic selling causes when the market is down 40%, the importance of behavior clearly cannot be overstated.

2. Stocks vs. Bonds Allocation: The stock vs. bond allocation determines the vast majority of the risk/return features of your investment portfolio. Successful investors take the time to ensure their stock vs. bond allocation gives them the best chance of achieving their unique goals.

3. Sub-Allocation: The sub-allocation of a portfolio has more to do with splitting the larger asset classes into smaller ones. This is where you make decisions like how much to hold in US stocks vs. international stocks, large-cap stocks vs. small-cap stocks, value stocks vs. growth stocks. A lot of investors and advisors get caught up in the minutia of sub-allocation decisions and more or less waste their time. I think the only thing we can say about sub-allocation and investor success has to do with diversification: the more diversified the investment portfolio, the more likely the investor is to be successful.

4. Active vs. Passive Management: We find that investors tend to be more successful using passively managed low-cost index fund investments in their portfolios. Active management by its very nature results in less diversified portfolios and higher expenses.

5. Taxes: Successful investors make sure they take the necessary steps to minimize taxes. However, investors should not let the “tax tail” wag the dog, and have minimizing taxes determine their entire investment strategy.

6. Everything Else: I almost don’t want to give this category its own bullet point, but we’ll go ahead and lump everything that isn’t included in one of the first five determinants into one group. Moral of the story, if something doesn’t fall under the first five categories, it doesn’t make a material difference, so don’t worry about it!

Paul Ruedi is the CEO of Ruedi Wealth Management in Champaign, Illinois.