WTF Are Investments? Part 5: Different Philosophies

August 23, 2016 Paco de Leon

This week we're tackling a lesson (not advice) in investment philosophy.

The last post in this series explained the importance of setting goals and knowing what your money will be used for. A quick recap: when you know what your money is for, that informs how you’ll invest your money. How actually can translate to a lot of different things. Another how is using an investment philosophy.

What is an investment philosophy?

Investment philosophies are theories and ideas about how to invest one's money based on strategy, tactics and techniques.

Different philosophies can contradict each other

I'm not sure if this comes as a shocker, but there are different strategies and sometimes these strategies can contradict one another, so as you can imagine, navigating this can be tricky.

An example about philosophies and how they can contradict each other can be seen in so many examples in our world. Let's take a look at the weird and pretentious world of mixology. I'm sure there are mixologists who believe there are certain tried and true techniques for making an old fashioned. They live and die by their philosophies. And there will be other mixologists who have read up on new techniques or created their own recipes that they now live by which can contradict the old beliefs.

Why does contradiction exist?

One reason why there can be contradictory strategies in the investment world is because economics and finance are soft sciences. They aren’t hard sciences with impenetrable assumptions and theories like relativity or gravity. (But even given the right amount of stimulants, all hard science theories can be debated).

Another reason contradiction exists is because of the human factor. Super fancy and smart people with letters behind their names, like academics, analysts, fund managers and economists, very often have opinions on why the markets do what they do and why humans react how they react. Their opinions seem to have a lot of weight because they often become theories, but theories are ultimately based on opinions.

IRL (In real life)

Here are two examples of contradictions that can happen:

Polly believes robots will one day inherit the earth and that technology will reign over all of us humans. Based on that, she believes it’s smart to invest in high tech and robotics companies that she thinks will have very high growth as our world and economy changes. Polly doesn’t sweat the fact that a lot of these companies aren't currently profitable. She thinks they’ll grow a shit ton (technical term) in the future because of how our world will change. The industry jargon calls this type of investing, growth investing. Polly sees the growth potential in investing in new robotics and tech companies.

Quagmire doesn’t bet on things that don’t have a proven track record. He looks to stocks and bonds that have performed well in the past to make his decisions about what he’ll invest in. He invests in seemingly reliable companies who have done well in the past. These companies pay a regular dividend (we'll discuss this more in later posts). The industry jargon for this type of strategy is value investing.

The big question is who is right, Polly or Quagmire? Who is the better, smarter investor?

Welp, neither of them are. They’re both using different investment strategies and both of them can have investments that perform well or not well. Even though these theories seem to be contradictory, both strategies have their merits and drawbacks.

Feed your dome

Now that you know what an investment philosophy is, you should strive to gobble up information about the different theories so you can analyze and understand them. Ultimately, you can form your own opinions on them. Once you do that, you’re starting to uncover what type of investor you are and what your investing worldview is.

Remember, there isn’t a totally right way or a totally wrong way to invest. You can make an argument defending why you think your investment will help you achieve your goals.