A man I knew a few years back got seriously into real estate after reading “Rich Dad, Poor Dad” and inheriting a million dollars (his father-in-law died). He had been living in Toronto, and after discovering how much cheaper property was in smaller towns (duh) he started buying anything he could get his hands on (this is the guy who evicted me when I wouldn’t loan him money).
I was talking to him after he’d bought one building with a commercial store front. I asked him if there was a tenant in it when he bought it and he said “no”. I then asked him if he had a tenant who would go into it after he fixed it up, he again said “no”. He followed this up with saying there was a non-profit group he could let use it in order to get a tax credit. I asked him why he bought it if there wasn’t any clear way to make money with the building, and he said that it was so cheap, he couldn’t lose. After he fixed it up he could just resell it for a lot more than he paid if he couldn’t find a tenant (although he expected to have people want to rent from him).
At the time this didn’t add up in my mind, but I figured I must not have a proper understanding of real estate. If the property was selling cheap now, it’s because there wasn’t much of a demand for store fronts in the small town. It just seemed to me that he was buying a rock around his neck to get the property, pour a lot of time and money into it, then have it sit empty for him (like it was for the person who sold it to him).
He proceed to buy up a bunch of properties, went looking for more money to keep buying (enter Mr. Cheap) and just recently, a few years later, I’ve found out that (surprise, surprise) it hasn’t worked out very well for him.
There’s a funny thing when people first get into a new investment, they seem to convince themselves that they’ve somehow stumbled in on it at exactly the best possible time. He was convinced that for some reason real estate was available at an unbelievably good price and he needed to buy as much as he could get his hands on.
I’m throwing rocks in a glass house here, as I got into dividend stocks in mid May last year, and as soon as there was a dip I bought a bunch more on margin (I thought I was being conservative, but I got hit with 2 small margin calls).
If anything, chances are good that if you learn about a new investment strategy, it’s probably been doing well recently (given that people are writing or talking about it and advocating / teaching new investors about it). From just a reversion-to-mean perspective, it’s probably LESS LIKELY to do well in the near future, BECAUSE it’s been doing well recently (like real estate and dividend stocks right now). Perhaps the best investment strategy would be to read 10 year old “get rich quick” books and copies of the Wall Street Journal? 😉
I’ve seen the pattern repeatedly where people learn about a new strategy, think it’s great, then bet the farm on it before they’re knowledgeable enough to really assess the risk / reward trade-off being offered. Cooler heads wrote early on that the bank stocks were probably going to keep falling, and I could have saved myself thousands of dollars if I had waited a few more months to buy.
My fear was that I’d miss the dip and be kicking myself for not buying when they were higher.
I’m not sure if this is a general problem for anyone learning a new strategy, or just an issue for certain personality types. The rational approach would obviously be to start small with a new investment strategy, test the waters, and gradually increase your investment as you learn more. People (in my experience) don’t do this, and seem to fall into two camps: either they don’t invest at all (all money sits in GICs and savings accounts), or they seem to over-invest early in their self-education.
Do you think putting too much money in an investment while you’re still a novice is a common investor problem, or do you think Mr. Cheap is just trying to project his issues on the rest of the investment community?