When it comes to investing, some people think of it as a "magical machine" that should spit out more money when you throw money into it. Others believe that making money in the stock market is just about trading short-term price differences. It seems that few people care about where the money earned from investments actually comes from.
This question is precisely the origin of investing; it determines how we view investments and whether we can make money from them.
Money from Economic Growth#
There is no such thing as a free lunch, and money does not come from thin air.
Take stocks and bonds, the two most common investment tools, as examples. They both involve investors turning their money into capital to participate in and support the operation and development of companies. If the services or products provided by the invested company create value for users and accumulate social wealth, we can also benefit from this investment.
Imagine if we had invested early in well-known companies today, such as China Merchants Bank and Tencent. Over the years, they have continuously served more users and created greater value. As their shareholders or creditors, we would also receive substantial returns.
Money from Short-Term Fluctuations#
In daily life, it is more common to chase hot trends or trade stocks based on news. Their commonality is the hope of making quick money.
In the stock market, you can buy because someone is willing to sell at the same price (and vice versa). To earn money from others means that your information must be more timely and accurate than that of most people in the market, and your judgments must be wiser than those of most. For ordinary people, this is very difficult.
Ultimately, it's like gambling based on luck; even if you invest a lot of time, energy, and so-called "research," it remains a game that most people are destined to lose.#
Summary#
The money earned from investments does not come from nowhere; it is a process of participating in wealth creation and obtaining corresponding returns. For ordinary people, expecting to earn money from short-term fluctuations is very difficult and not cost-effective.
Many people believe that investing requires learning complex mathematical knowledge and financial theories, which should be quite difficult.
In fact, achieving good investment returns does not require understanding these. Just like learning to drive, as long as you learn the traffic rules and driving skills, you can safely get from point A to point B without needing to know how the engine works.
This part,
Will give you a simple formula: "Good assets + Good price + Long-term holding",#
To help you judge what constitutes a good investment.#
Does a good company equal a good asset?
The first question many people are curious about is "What should I buy?"
In hindsight, we often see those good stocks. For example, buying Tencent in 2005 has increased 300 times by now (2022). Buying Tesla in 2019 has also increased more than 20 times in just three years (by 2022). These numbers are very attractive.
Indeed, Buffett has made astronomical amounts of money with this ability. However, Buffett is famous precisely because his achievements are hard to reach.
For most investors, it is difficult to identify these good companies years ago. Many companies you are familiar with today have grown into "good companies" in everyone's eyes, but their prices are often not cheap. Even if you were lucky enough to choose them back then, when their business encounters setbacks, you may lack the confidence to hold onto the declining stocks to reap the final returns.
Choosing good companies is a seemingly bright but actually bumpy road.
Good Assets Suitable for Ordinary People#
As ordinary investors, we do not expect to get rich through investments. What we need is for our hard-earned money to achieve reasonable returns.
Rather than blindly pursuing high returns, what allows us to hold onto investments with peace of mind in an uncertain investment world is truly good assets. They should have the following characteristics:
- Worry-free and effortless: Choosing them does not require too much of our energy;
- Real and reliable: Invest in reliable underlying assets with dependable sources of returns, unlike P2P, which can lead to total loss for investors;
- Diversified investment: Do not put all your eggs in one basket;
- Long-term upward trend: Although there may be short-term fluctuations, holding for a sufficiently long time is likely to yield profits.
In fact, such assets have existed for a long time and are gradually becoming well-known—these are broad-based indices in index funds.#
Index Funds and Broad-Based Indices#
Index funds refer to funds that purchase a basket of stocks. By buying index funds, you can diversify your investment across multiple companies with a small amount of money.
Broad-based indices are parts of index funds that cover multiple major sectors of the national economy. For example, the "CSI 300" is composed of the top 300 companies listed on the domestic A-share market with larger market capitalization and better liquidity.
Broad-based indices are good assets suitable for ordinary investors. They are sufficiently diversified and will not lead to total loss due to "black swan events" of individual companies. At the same time, through the rules of survival of the fittest, they continuously incorporate excellent companies into our investments.
More importantly, industries change, and companies rise and fall. A broad-based index that can represent the overall economy of a country is like a large ship sailing through the waves, helping us enjoy the dividends brought by national economic growth with peace of mind.
Buying at a Good Price#
In addition to choosing good assets and knowing what to buy, understanding when to buy is also important.
If you had bought the CSI 300 at the end of October 2008 and held it until the end of 2021, you would have gained about double the returns. However, if you had bought it a year earlier, at the end of October 2007, and held it until the end of 2021, you would still be at a loss.#
As you deepen your understanding of investing, you will find that the fluctuations in the Chinese stock market are very large. Although long-term holding can yield profits, the significant fluctuations during the holding period may affect our mindset, leading us to exit early and miss out on the final returns. Therefore, good assets should also be bought cheaply to reduce the amplitude of fluctuations, allowing us to hold onto them with peace of mind and achieve better returns.
Long-Term Holding#
After buying good assets at good prices, what we need to do is patiently hold them for the long term.
On one hand, a company's growth takes time, and we need to give them patience to bring better products and services into our lives and create greater value.
On the other hand, the changes in stock market prices do not correspond directly to company growth. The Chinese stock market is characterized by short bull markets and long bear markets, with most returns realized in a short period. We do not know when the market will experience significant gains; what we can do is stay in the market to ensure that we are present when the opportunity arises.
Summary#
Good assets + Good price + Long-term holding is the "secret" to a good investment:#
- Good assets: Choose assets that are long-term upward and allow us to sleep soundly. For ordinary investors, broad-based indices are a good choice;
- Good price: Good assets should also be bought cheaply, but this does not mean waiting indefinitely; choose good assets with cost-effectiveness to invest in now;
- Long-term holding: Maintain patience and wait for a few years to reap substantial rewards.
When it comes to stocks, many people's first reaction is to think of losing money;#
When it comes to funds, what comes to mind may be losing less than in stocks;
When it comes to bonds... it seems like no one has seriously thought about what bonds are.
When we talk about buying stocks, buying bonds, and buying funds, what are we actually buying? Mastering this valuable knowledge is very important. Investing can easily be clouded by emotions, and often what helps you stay rational is not profound professional knowledge, but common sense.
What is a Stock?#
When we buy a company's stock, we become a shareholder of that company, owning a tangible part of it.
For example, if a friend wants to open a coffee shop but lacks funds, you propose to co-manage it and invest 100,000 yuan. At this point, you become a shareholder of the coffee shop. If the business does well, you can receive corresponding returns based on your investment ratio; if the business is poor, the 100,000 yuan principal may be lost. In other words, your returns fluctuate with the coffee shop's performance.
What is a Bond?#
A bond, in simple terms, is an IOU. This IOU stipulates the repayment deadline and interest rate.
If a friend wants to open a coffee shop but lacks funds, they may borrow 100,000 yuan from you, promising to repay you with interest by the due date. This IOU is a bond, and your return is the interest. In the larger investment world, it could be the government borrowing money from you, which is government bonds; or a company borrowing money from you for expansion, which is corporate bonds.
Compared to stocks, bonds carry relatively lower risk. If the coffee shop makes money, it must first repay the borrowed money, and only the remaining portion belongs to the shareholders. From a repayment order perspective, bonds generally have lower risk than stocks, and correspondingly, bond returns are also lower. The saying "risk and return go hand in hand" reflects this idea.
Common Misunderstandings About Investment Knowledge#
When it comes to stocks, many people's first reaction is to think of losing money;
When it comes to funds, what comes to mind may be losing less than in stocks;
When it comes to bonds... it seems like no one has seriously thought about what bonds are.
When we talk about buying stocks, buying bonds, and buying funds, what are we actually buying? Mastering this valuable knowledge is very important. Investing can easily be clouded by emotions, and often what helps you stay rational is not profound professional knowledge, but common sense.
What is a Stock?
When we buy a company's stock, we become a shareholder of that company, owning a tangible part of it.
For example, if a friend wants to open a coffee shop but lacks funds, you propose to co-manage it and invest 100,000 yuan. At this point, you become a shareholder of the coffee shop. If the business does well, you can receive corresponding returns based on your investment ratio; if the business is poor, the 100,000 yuan principal may be lost. In other words, your returns fluctuate with the coffee shop's performance.
What is a Bond?
A bond, in simple terms, is an IOU. This IOU stipulates the repayment deadline and interest rate.
If a friend wants to open a coffee shop but lacks funds, they may borrow 100,000 yuan from you, promising to repay you with interest by the due date. This IOU is a bond, and your return is the interest. In the larger investment world, it could be the government borrowing money from you, which is government bonds; or a company borrowing money from you for expansion, which is corporate bonds.
Compared to stocks, bonds carry relatively lower risk. If the coffee shop makes money, it must first repay the borrowed money, and only the remaining portion belongs to the shareholders. From a repayment order perspective, bonds generally have lower risk than stocks, and correspondingly, bond returns are also lower. The saying "risk and return go hand in hand" reflects this idea.
What is a Fund?#
A fund can be understood as a basket of assets. In this basket, various assets are managed by professionals according to pre-set rules and continuously managed. Because it holds a variety of assets, the risk of a fund is usually lower than that of a single stock.
Common types of funds based on investment objects include:
- Stock funds: More than 80% of the assets consist of stocks from different companies;
- Bond funds: More than 80% of the assets consist of various types of bonds;
- Money market funds: Primarily invest in bank deposits and short-term bonds with maturities of less than one year; a common example is Yu'ebao, which is a money market fund;
- Mixed funds: Invest in stocks, bonds, and money market instruments without a fixed investment ratio.
In addition to diversification, another advantage of funds is the low entry threshold. With a small amount of money, you can own a small part of expensive companies like Tencent and China Merchants Bank, making it suitable for ordinary people to invest.
Summary#
Stocks and bonds constitute the two most important ways we participate in capital market investments today. Buying stocks means purchasing a portion of a company's ownership and sharing in its dividends and growth; buying bonds means becoming a "creditor" and receiving a certain interest as a return. Funds are a way of investing. They invest in a basket of assets, and depending on the investment objects, the "appearance" of the fund varies.
Insurance Protection#
If investment and financial management are offense, then insurance is defense.
There are too many uncertainties in life; we cannot completely avoid risks, but we can make some efforts to reduce financial troubles when facing unexpected situations.
Different life stages have different insurance needs, and everyone can consider whether to configure critical illness insurance, life insurance, cancer insurance, etc., according to their needs. Generally speaking, accident insurance and medical insurance are inexpensive and provide practical protection, making them suitable for most people if they meet the underwriting conditions.
Management of Liquid Money#
Typically, there are two types of money that can be classified as "liquid money."
One is money used for daily expenses, such as purchasing necessities, paying rent, mortgage, or credit card bills. The other is money set aside for emergencies, such as saving 3 to 6 months' worth of salary as an emergency fund, allowing us to be more composed when unexpected expenses arise.
We do not expect this money to earn high returns; the key is safety and convenience, allowing for quick withdrawals when needed.
Money market funds can be redeemed at any time, have no transaction fees, and have a low probability of loss, meeting the investment needs for liquid money. Although the returns are not high, earning a little on a solid foundation is still quite satisfying.
Conservative Financial Management#
If there are planned expenses in the next 1 to 3 years—such as buying a car, buying a house, getting married, having children, or traveling—and you do not want to bear high investment risks or have particularly high return expectations, you can consider that you have a portion of money that needs to be "stable."
The characteristic of this money is that it will not be used in the short term, and it can pursue higher returns than liquid money. When it is needed, we also find it difficult to accept that this money is currently losing value.
Therefore, in this case, conservative financial products are very suitable. These products mainly invest in medium- to low-risk bond assets while allocating a small amount of high-risk assets, increasing the possibility of obtaining better returns while remaining stable. Of course, because they allocate a small amount of high-risk assets, conservative financial products may still incur losses within one year and are not suitable for managing liquid money.
Long-Term Investment#
After setting aside the above three types of money, the remaining portion can be used for long-term investment.
Long-term investments mainly target the stock market, which has long cycles and significant short-term fluctuations, so we should use money that we do not need in the long term to invest.
As mentioned earlier, choose index funds that represent long-term economic growth, buy at good prices, diversify investments, and hold for the long term; ultimately, we are more likely to achieve good returns.
Summary#
Before investing, we need to reasonably plan our money based on different uses, goals, and risk preferences. Compared to blindly pursuing high returns, matching money with investment products is more important.
- Insurance protection: Provides a safety net for life, configured according to life stages as needed;
- Management of liquid money: Money that may be needed in the short term can be invested in money market funds to pursue small returns;
- Conservative financial management: Money that seeks stability can be invested in conservative financial products to pursue higher returns than liquid money;
- Long-term investment: Money that will not be needed in the long term can be invested in stock assets to pursue higher investment returns.
The Complete Picture of an Investment System#
Mark Tier, in his famous bestseller "The Investment Habits of Buffett and Soros," once described what a typical investment system should look like. It should include the following parts:
A typical investment system needs to consist of the following three major parts:
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Personal cognition and investment philosophy
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Circle of competence and investment criteria
- Investment strategy
In "The Investment Habits of Buffett and Soros," Mark Tier divides an effective investment strategy into the following 12 components:
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What to buy
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When to buy
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Purchase price
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How to buy
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Proportion of purchase
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Monitoring the investment process
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When to sell
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Structure of the investment portfolio and use of leverage
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How to find investment opportunities
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Methods to cope with market crashes and other systemic shocks
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What to do when mistakes are made
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What to do when the system is ineffective
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Let's go through each of these components in relation to the investment system.
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What to buy?
The "good assets" we refer to: For ordinary investors, the most suitable option is index funds. Knowledgeable individuals will also help everyone select some enhanced index and actively managed funds. -
When to buy?
Review monthly and purchase regularly. -
Purchase price
Check with the "thermometer" and buy more when undervalued. -
How to buy
In cash. -
Proportion of purchase
Invest diversely in the CSI 300, CSI 500, and indices such as consumption and pharmaceuticals. -
Monitoring the investment process
Specific targets do not need monitoring; index funds will take care of themselves. -
When to sell
Sell when the thermometer indicates the market is overvalued or during regular rebalancing. -
Structure of the investment portfolio and leverage
No leverage needed. -
How to find investment opportunities
Wait; there is no need to search. Spend more time on your work and life to increase the principal available for investment. -
Methods to cope with market crashes and other systemic shocks
No need to cope; in most cases, it is actually a better investment opportunity. -
What to do when mistakes are made
Acknowledge your mistakes and sell. Analyze the errors, improve the system, and avoid making the same mistakes again. -
What to do when the system is ineffective
During the operation of the system, knowledgeable individuals will continuously observe, reflect, and iterate. For example, as more companies with intangible assets like large tech companies emerge, is the traditional valuation method based on PB and PE percentiles still effective?
pB
pE
For instance, can we incorporate more investment targets from other overseas markets? Can we retain more profits when selling during a bull market based on trends? This investment system will continue to evolve.
Graham wrote in "The Intelligent Investor":
Investing is not about beating others at their game. It is about controlling yourself in your own game.#
Understanding yourself, establishing or finding an effective investment system based on your investment philosophy, and using it to guide your investments is an effective way to control yourself. After all,
In the game of investing, the ultimate competition is not intelligence, but the understanding of oneself, the world, and the control of emotions.#
To put it more extreme,
Investing is a process of "heart" training. It examines our relationship with the world, with ourselves, with others, and with money. Success in investing is a natural result of becoming a better person. Investing is not a science; it also has a considerable artistic component. It is a vague world where we can calculate numerical ratios precisely but cannot accurately describe our mindset and emotions.#
What is a "Good Asset"?#
We have already provided the definition of "good assets" in previous lessons—#### For ordinary investors, the most important thing is to invest in a market that is long-term upward.
If the targets we choose are long-term upward, even if there are some fluctuations in between, as long as we hold for a sufficiently long time, the probability of achieving positive returns is still quite high.
The answer is "index funds."
Index funds are funds that purchase a basket of company stocks. For example, the ChiNext Index has corresponding funds, as do the CSI 300 index funds.
CSI 500 index funds, etc.
By purchasing index funds, you are essentially buying stocks from many companies and can share in the growth benefits of these companies.
Thoughts on "How to Choose Good Assets?"
[Notes|] "Good Assets" 1. Long-term upward market.
[My Expansion|] 1. "Behind any major opportunity in asset classes is the progress of the times." by Crystal Flycatcher.
- "China may continue to grow at a level higher than the global economic growth rate while completing the transition from a government-led market economy to a fully free market economy with government assistance, until it roughly catches up with developed countries." by Li Lu.
[Notes II] "Good Assets 2. Index funds can help us select good companies. Reason: Indexes have a survival of the fittest characteristic, and the head effect in A-shares is very severe.
[My Feelings II] The survival of the fittest characteristic of index funds is the main reason I can sleep soundly every night after buying index funds. When I buy stocks, I still doubt my judgment if the stock price drops (although buying stocks still has its joys and reassurances; I want both).
[Notes II] "Good Assets" 3. Broad-based index funds can represent a country's GDP (the total wealth created by a country over a period).
[Comparison II] Choosing industry index funds involves making active judgments and stock selection. For example, the CSI 300 index has seen significant changes in the proportion of various industries over the past 20 years.
[My Expansion II] In October, I wrote: I have always felt that buying funds is like buying stocks, so which funds to choose? Of course, the more "good stocks," the better. This is a perspective on viewing the world: "I am safe because I am better," which also leads me to pay attention to the index compilation methods, the stock selection strategies of fund managers, and my own ideas about what constitutes a good stock, etc.
But from another perspective, buying funds can also be seen as buying national fortune, and broad-based index funds are the ones that can truly represent national fortune. This perspective could be called: "I am safe because I am the market itself."
Today, due to the second note, I have gained a deeper understanding. Because of the survival of the fittest characteristic of index funds, the two perspectives I previously delineated are not entirely contradictory. I feel like I am continuously progressing, and it feels great.
[Notes IV] Core (CSI 300 + CSI 500) + Satellite (Chinese concept internet/consumption/pharmaceuticals/dividends)
[My Practice IV] This is what I am doing; cheers!
I feel like I am continuously progressing, especially...
It can be called "Good companies do not equal good stocks." One of the biggest reasons for this is price.#
In investing, the so-called "margin of safety" means buying as cheaply as possible. In Buffett's words, "You want to buy a dollar's worth of something for 40 cents."#
Besides "Good companies do not equal good stocks," there is another classic saying in the investment world,
"Your rate of return is actually locked in when you buy."#
No matter what kind of investment we make, we must remember that as long as you buy cheaply enough, you may be invincible.
From my observations over the years, great investors share a common trait.