The greatest enemy of a good plan is the dream of a perfect plan.
— Prussian General Carl von Clausewitz

Today I am pleased to present our very first guest post! Hailing from the Land Down Under, the Mortgage Mutilator writes an entertaining and informative blog focused on paying down mortgage debt as quickly as possible. He kindly offered to give me a one-day reprieve from my 30-day posting challenge. I decided this was within the rules, because hey — they’re my rules, I make ’em up. ¹ So, take it away, Mutilator!

A colleague of mine told me an interesting story not too long ago. You see, he rides his bike to work most days (a decent 25-mile ride each way at that). However, he rides a relatively old $500 hybrid bike.

He described many of his “biking mates” that are continuously obsessed about the weight of their bikes. “Oh my bike is pure carbon with weave damping and only weighs 1/10th of an ounce!” ² Or, “I just ordered these new replacement carbon components and now my bike weighs 20 ounces lighter!”

Through all their boasting and conversations, though, he never cared, because he knew whilst they were always fiddling with their bikes, he’d actually be riding his.

They were obsessed with getting their tools just right, getting them correctly tuned and weighing as little as possible. With having the right brand lights, riding pants, drink bottles and fancy helmets. So obsessed with perfection that they barely had time for riding at all. They may have considered themselves “professional riders,” but he rode hundreds of miles more than they did every single week.

Although planning and fine tuning what you do is always important, it’s all irrelevant if you never put any of it into action. The same can be said for your Investment Portfolio.

Modern Portfolio Theory

The idea behind Modern portfolio theory is working to maximize your expected return given a certain amount of risk. Usually you hear the old adage of “the higher the return, the higher the risk“, however the efficient frontier is a relatively new concept that flies in the face of all that. It proves, through some fancy maths that won Dr. Harry Markowitz the Nobel Prize in 1990, that you can actually increase your return, and at the same time, decrease your volatility (or risk).

This fantastic result is achieved through holding a number of different asset classes instead of just investing everything in one class. For example, rather than investing everything you have in the U.S. Stocks asset class, you might hold 34% in U.S. Stocks, 33% International Stocks, and 33% in government bonds. This is called the 3-Fund Lazy Portfolio, and is quite easy to set up and maintain over time.

As you add more and more asset classes you can, as a general rule, continue to increase your risk-adjusted return. However, the catch comes with the fact that the more asset classes you add, the more costs you tend to incur. This obviously drags down the performance of your investments, and as such, there’s a balancing point between the two factors. You want as much return with as little risk (more asset classes), whilst still limiting your costs (fewer asset classes). This subject is also referred to as “Asset Allocation”.

You’ll Never Get Perfection

There are many different and more complex portfolios you can choose from, but there’s one thing personal finance experts will rarely say — None of them will ever be “perfect”. You see, even if you do study the theory, talk to advisors and experts, and choose the best option you believe you can — which many people spend all their time doing (just like those “professional bikers” did with their bikes) — it’s quite certain that you’ll still be outclassed by another type of portfolio. Maybe the US Stocks asset class really soars this year. If it does, that overly simple 100% in US Stocks portfolio design would have been the best! Unfortunately, predicting this ahead of time is impossible.

It gets even worse when you constantly research and analyse the different configurations and possibilities of what your portfolio will be. This is normally based off the latest nice sounding argument about where the market is going. If you go down this path, you might not ever startinvesting at all! Your money could sit there in a low interest savings account, being eaten away by inflation year after year, all because you can’t make a decision. You’ll just keep spending more and more time trying to get that perfect mix, getting it just right before you start. And therein lies the problem; as humans we always want to be better than the other guy, and having our investments make more money is no exception. So we end up sitting there forever trying to “figure it out” or “fix it up just a little more“.

In the beginning you do have to research, plan and investigate this part of investing properly because it is important. Read a few books on the subject and do some more research, but be careful that you don’t spiral into just constantly reading what the hottest new tip is or where the market will go this year, and never take any actual action. It’s much easier to read more about the subject than to actually do something, because if you do and fail you might feel horrible. If your assumptions or plans turn out to be incorrect, then you might be embarrassed, and worse yet, lose some of your money.

Other reasons for avoiding action include the fact that it’s just simpler to read about someone else doing it as opposed to doing it yourself. The only way to get out of this type of funk is to grit your teeth and take action. So how can you get that perfect portfolio ready to actually take the first step and invest?

Accepting The Inevitable

Instead of searching for the perfect portfolio, the one that will always perform the best, I subscribe to the method that you should take a more calm or “chillaxed” approach to the subject matter.

As part of being human we compete with each other all the time. It comes from an evolutionary trait of survival of the fittest. It’s human nature to always want our investments to outperform others, to “beat the market,” as we’re so obsessed with saying. People spend millions every year researching and coming up with increasingly complex plans to create a foolproof portfolio. It can’t be done. Make sure you never let this obsession, this drive, get in the way of actually investing your money.

Sit down, do some research and analyse your position as well as what you want to achieve. After you’ve done some of this, choose a “good enough” portfolio. The next step is a little more challenging for some, but you just have to realise and accept that this choice you’ve made will not be perfect most of the time. Implement the portfolio plan anyway, and enjoy your life as your investments grow. Nobody’s perfect, and as long as you can develop and learn to live a rich life, does it really matter if your performance isn’t the absolute best?

Not for me it doesn’t.

The Mortgage Mutilator is a Telecommunications Engineer, Photonic Scientist, published author, computer/mobile geek, and extreme financial efficiency expert that has honed his skills towards destroying his large mortgage debt. He is an experienced volleyball player and writes weekly at Mutilate The Mortgage, hoping to share his knowledge and help others to pay off their mortgages, usually in under 7 years.