[Mindset change #5] - Think and Play Long Term
And why short term thinking can be full of perils
I know what you must be thinking. “Think long term” is some generic advice that you must have heard so many times all around you. In the world of finance, everyone likes to enthusiastically praise the virtues of compounding. People got so carried away, that if you google for “quote on compound interest” - you get this as the top result!
The problem is that there is no evidence that Einstein actually said something resembling these words. But the good thing is that the sentiment behind this quote is completely right.
Power of compounding is a no-brainer
Let’s assume you are 30 years old. If any investment you make gives you just 15% per year for next 30 years, your invested amount will “grow 66x” till the time you are 60. Sounds too good to be true? - you can cross check the calculation here. This is pretty much all you need to know to convince yourself of the power of compounding and playing the long game.
But people rarely play the long game.
Very few people actively think long term. Yes - you may have a track record of disciplined long term investing in your current mutual funds - agreed! - but its more likely due to neglect/inertia, rather than being an active choice.
All the talk about long term compounding may pump you up for a moment, and then life happens and just like new year resolutions, all the enthusiasm fizzles out. When the chips are down, you start questioning your investment philosophy. There is always someone and something out there doing better - some penny stock, crypto - and FOMO starts to kicks in. You start thinking that 15% per year is not good enough, maybe you should try day-trading and earn 15% every month, like that friend you know.
Some people have a really hard time thinking long term. They move from one investment idea to another, change managers too frequently, invite unnecessary stress in their lives - without any meaningful returns.
Let’s flip the question
When writing this chapter, I asked myself a question, why do people fail to think long term in investing despite the obvious advantages? And I realised that the problem is that people don’t appreciate why short term thinking can be dangerous. So for this chapter, let’s flip the question. Let’s not ask about the benefits of thinking long term, instead let’s investigate what are the perils of thinking short term.
Short term thinking leads to FOMO and irresponsibly risky behaviour
When you think short term, you will always find something that’s doing better than your investments. The fear of missing out (“FOMO”) kicks in, and any reasonable fear of losses takes a back seat. The FOMO is so irresistible that it pushes you towards taking irresponsible and risky behaviour. And in these environments the masses end up investing at the top of bubbles. Bubbles are like a beautiful mirage - they look like an “obvious opportunity” while building up and an “obvious mistake” after they burst.
Even the smartest let their guard down and get swayed by short term performance. It’s fine if you want to “go big or go home” in life and have a gambler mindset. But if you think as an investor, you should keep your guard up and have a healthy fear of losses. Because irresponsible losses can deeply damage your compounding journey and set you back big time.
Short term thinking leads to prematurely giving up on good ideas
Good things take time. We sometimes get restless and don’t appreciate it. This is because we are constantly exposed to tales of success of people in news, social media and gossip. But we don’t appreciate the underlying struggle, periods of self-doubt, thoughts of giving-up.
When you delegate investing to a competent manager, their ideas may take time to play out. If you are restless, you will give up on good investment ideas too soon.
The restlessness from short term thinking will not let you succeed
Short term is full of noise. I have seen many people try and move around on too many ideas - especially when they don’t delegate investing. If you want the magic of compounding to work, you should stick with a strategy and let it play out in the long term. Tinkering too much will not let you succeed.
And tinkering also comes with stress - without any incremental benefit . Do you want investing to be a source of stress in your life?
A note for investors in 2022
If you are reading this chapter at the time of writing (January 2022), this lesson is very important for you. From being extremely fearful in March 2020, the markets have moved to extreme euphoria. Fear of losses has taken a backseat. All the investments are doing well. This is a perfect time to confuse luck with skill. This is the perfect time to make mistakes in investing. You should be extra careful and think long term!
Thinking long term is important. Get started fast to have time on your side. Invest with managers who think long term, compare your results with benchmark to address FOMO. If your friend made 10x gains in Crypto, while your portfolio is at 15% gain, it’s fine. Both are different games. Stick with your strategy and give it time. Have a systematic approach to investing where you are in control and you don't feel like throwing darts in the dark.