I grew up on a dairy farm in nearby Lebanon County. As a young boy, I’d often be outside playing by myself doing things that would make me shutter if one my kids would do the same thing today. I used to climb part way up a silo to reach the roof of the barn that I knew I wasn’t supposed to be on. I would climb a tree to get on the roof of the house or climb up the side of a wagon used to bale hay so that I could jump off into a pile of straw. You get the picture. One day I was playing tag with a friend in the barn and while being chased, I slipped on the rung of a ladder and fell face down from the second floor onto the concrete floor eight feet below.
That’s the day I more fully understood the principal of gravity. A principle is “a fundamental truth or proposition that serves as the foundation for a system of belief or behavior.” Some use the principle of gravity as an opportunity for thrill-seeking (e.g. bungie jumping), and others use it as a reason for caution. Because of my more complete grasp of the principle of gravity, my behavior around heights is quite a bit different today than it was as a boy.
Here are some principles that investors need to understand:
- Volatility – Prices of market investments will fluctuate, sometimes significantly.
- Diversification – It is wise to invest in a variety of investments and asset classes.
- Time Horizon – Investments for long-term goals benefit from compounding when they stay in the market for long periods of time.
- Risk & Reward – The greater the risk the greater the potential reward or loss.
It is important to understand each of these investment principles in light of our goals in order to keep us from making knee-jerk, emotional financial decisions when the markets are volatile. Seasoned investors expect market volatility and calmly pursue their long-term financial goals in all market environments.
How has your behavior been shaped by your understanding of the basic principles of investing? How is that being tested in the current market environment?