Investors’ Choice: Build Long-Term Wealth Or Worry About Short-Term Market Prices?

Summary

Our Income Factory strategy is about growing income and building long-term wealth.

Protecting ourselves from market price volatility in the short term can detract from performance and cost us money over the long term.

Economists and investment experts have known this for generations, but the investment industry and financial media make their money by getting us to focus on the short term.

Do you ever wonder why the programming on CNBC resembles that on ESPN so closely? They want viewers to think of investing as a sort of “sport”

A sport that needs our constant attention, and tracking market prices – minute-by-minute, hour-by-hour – is how they keep score.

This idea was discussed in more depth with members of my private investing community, Inside the Income Factory. Learn More »

RichVintage/E+ via Getty Images (This article was adapted from Chapter 2 of my book, The Income Factory: An Investor’s Guide to Consistent Lifetime Returns (McGraw-Hill, 2020). The complete chapter is available here .)

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Many investors don’t realize how relatively recent the investment world’s pre-occupation with “market value” is in the overall history of investing. In the world of Charles Dickens or Jane Austen, the wealth of a person was described not in terms of the resale value of their assets, but rather by how much income those assets generated. Mr. Darcy, of Pride and Prejudice fame, was a sought-after marital candidate because he had an income of “£10,000 a year.” The financial position of most characters in literature of that period, whether they had a lot of money or a little, was depicted in terms of the income their assets or estates produce, not by what the market value of those assets would be.

This focus on income rather than market value as the determining factor in gauging wealth, at least for most people, continues well into modern times, with “how much money does so-and-so make?” still being the threshold question for discussions about how children, family or friends are navigating financially through life.

The shift in emphasis from “income” to “market value” has been driven mostly by the sea change in how retirements are now funded for most people. Back in the day when employees routinely worked for the same company for most or all of their careers, “defined benefit” pensions promised employees a specific income stream. You worked so many years at an average salary of X and you were then guaranteed a pension of a fixed amount when you hit a certain age. It was expressed as an annual income for a reason, since it allowed employees to compare the anticipated pension payment directly with their current on-the-job salary and know how close their post-retirement income would come to replacing their pre-retirement income.

That’s why so many of the personal financial products developed over the years have been of the “annuity” variety, where a financial firm would promise, for a fee (often an exorbitant one, although not always disclosed too clearly), to pay clients a fixed amount of income for the rest of their lives. The financial firms knew most consumers just wanted a predictable stream of income, and didn’t have the actuarial or investing expertise to create or manage an investment portfolio capable of generating that income stream.

“Defined Benefit” Becomes “Defined Contribution”

The rise of 401K plans, IRAs and other “defined contribution” plans has changed the role of millions of investors, whether retired or planning to be. Previously investment firms managed our corporate pension plans, ensuring they grew at a pace sufficient to support the payments retirees had been promised.

Under defined contribution plans, individual IRA and 401K owners have become their own pension plan managers, with no money management firms doing it for them like before. Now the pension plan beneficiaries (i.e. all of us) have to make sure our own IRAs and 401Ks are up to the task of generating the pension payments we will need in retirement. To paraphrase Walt Kelly’s classic comic strip character Pogo, “We have met our pension plan and it is us.”*

With no big institutional third party promising – no matter what – to pay them a fixed monthly pension for the rest of their lives, individual investors had to get up the curve fast on how to do it themselves, thus causing an explosion in retail investors’ interest in the “how to” of money management. And where have new investors turned in order to learn how to invest their money more professionally? To the institutional investment professionals and a […]

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