In this modern-day fable, a Hare and a Foolish Tortoise race to see who can double his money quicker. The life-in-the-fast-lane Hare day trades for instant gratification; the Tortoise buys index funds and the Foolish Four. Penny stocks bring down the Hare, while the Tortoise's slow and steady style wins the race.
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"How can you make money when you never trade?" the Hare scoffed.
"I may be slow, but if we were to have a race to see who could double his money first, I would win easily," answered the Tortoise.
"Come on, then!" cried the Hare at once. "We'll see who gets his first two-bagger. Ready... set... go!"
He took off by chasing down a hot stock tip about a company that was minutes away from finding a cure for AIDS. A neighboring chipmunk had tripled her money in a few weeks as the stock roared from $0.20 to $0.60.
The Tortoise started at his usual plodding pace. He built a portfolio of index funds plus Foolish Four and Rule Maker stocks. He considered the same company as the Hare, but was unable to get information on it. Being a penny stock, it was not followed by analysts. And since it was not traded on the Nasdaq, the company was not required to file quarterly earnings reports with the SEC. It was too risky an investment, concluded the Tortoise, who likes to know what's happening in his companies and track their growth over the long-term.
The Hare invested all his money in the hot stock at $0.60. By the time the Tortoise finished his research on the company, the stock was trading at $0.30 as the hype about the company's product died down. The Hare sold and put his cash into an IPO that had just announced a plan to invent a new and faster Internet search engine. The company tripled on its first day of trading, going from $1.00 to $3.06, and Hare was delighted to have gotten in at $2.50.
"Ha!" he thought. "This baby's going to $20 in a few months. I'll be able to show Tortoise that I've quadrupled my starting amount." But over the next several months the company drifted lower and lower until it hit $1.00, at which point Hare sold again. He was now down 90%. To double his starting amount he would need to increase his portfolio 20-fold. Obviously the only answer was margin.
Hare got serious and opened an account at a new company that provided support services to day traders. The company also provided a margin loan to "leverage" Hare's money. Hare really dedicated himself to trading, and he made money on a lot of trades, but not quite as much as he spent on commissions and interest. The cost of trading gradually eroded his cash stake until one day he lost big on a "sure" trade and his margin loan was called. He had nothing left and was $10,000 in debt.
Distraught, Hare wandered back into the old restaurant that he had been avoiding for months. As he searched his pockets for enough coins to buy some coffee and carrot cake, he saw the Tortoise quietly eating shrimp etouffee.
"How's it going?" he asked, when he realized Tortoise had seen him. Tortoise smiled. "I haven't doubled my money yet, but it's been a really good year. My portfolio is up 30%."
The Hare left quietly.
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During the past few years of the raging bull market, investing has become as common as dieting. Stock market chatter can be overhead in gyms, commuter trains, and concert halls.
As a result, individual investors are becoming like mutual fund managers, comparing their portfolio returns, and pumping each other for trends and tips. (Considering that 49.2 million U.S. households own equities, it's likely that you've found yourself in such a competitive scenario.) Therefore, it's doubly important to stay committed to your own long-term investing philosophy in the race for the finish line of stellar investment returns.
In the modern fable above, Hare, who lives in the fast lane, adopts an instant gratification investing style. He likes to move in and out of stocks at a sprinter's pace and looks for stocks that will explode upward.
Unfortunately for him, "Seventy percent of public [day] traders will not only lose, but will almost certainly lose everything they invest," wrote Ronald L. Johnson, an independent consultant who analyzed a sample of day trading accounts for the North American Securities Administrators Association. His Report of the Day Trading Project Group concluded that only about one in ten day traders actually makes a profit.
Every trade Hare makes costs him money. He forgets the wisdom of George Eliot, who wrote, "It's no use filling your pocket full of money if you've got a hole in the corner."
By taking your time, you'll have opportunities to explore your tolerance for risk and discover things like the fallacy that hooks so many new investors: What goes up keeps going up. While this has been true for the market as a whole over the long-term, in the short-term and for specific stocks, it rarely works that way. Just ask anyone who's been invested during the past six months. How would you feel watching your money disappear down a penny stock drain, especially if it's only been invested a few months?
Time helps. The advantage of being invested for several years is that you develop a cushion of profits to relax on when the market is tumultuous. You may think you're capable of handling big losses, but until it happens to you, you never really know.
When returns plummet, the investing Hare seeks to sell his losers and plow his remaining funds into the next hot stock, locking in his loss and paying additional commissions. The Tortoise, on the other hand, continues on his path and hangs tough, for he knows that positive returns are somewhere down the road for the slow and steady investor.
Become an investing Tortoise. Slow and steady wins the race.