My first real exposure to learning about investing was when my dad told my brother and me about investing and compound interest. I think I was 11 years old at the time, and he was mostly telling my older brother who was probably 14 at the time. But think I paid more attention than my brother. I remember listening to my dad's explanation of compound interest and Roth IRAs and was nothing short of awestruck. I thought to myself “Wait, you can invest thousands of dollars now and be a millionaire by the time I retire and not even have to pay taxes?!? Count me in!!” I still didn’t fully understand what it meant to invest, but it seemed like magic to me. And at a young age, I had time on my side. Three years later, I started investing.
Halloween 2021 marks the 16th anniversary since I invested in my first stock. Well two actually. October 31, 2005, at age 14, I bought shares in Apple (AAPL) and Starbuck (SBUX) in a custodial account at Schwab. Three months later I sold both positions, AAPL at a ~30% gain and SBUX at a ~10%, so my portfolio was up about 20%. I thought I was a bit of a genius at the time. I mean, stocks on average go up approx. 10% a year historically, so a quick calculation showed I made ~2 years of expected returns in just 3 months. Genius? Not so much. The $1400 trade in AAPL alone would be worth over $100k today. And all that from money I saved from mowing lawns in the summer as a teenager. But I settled for just a 30% gain on the position. Thankfully I did re-buy AAPL shares, but I could have made a lot more if I bought and held onto the shares since inception. That was my first investment mistake.
Additionally, I thought I was a genius because I was able to double my portfolio in the first two years of investing. I had fallen victim to the classic blunder known as the Dunning-Kruger effect, which is a cognitive bias that maps confidence vs. competence. It looks like this:
Basically confidence in my abilities shot up because of some beginner’s luck. I thought it was skill. But that soon faltered in 2008 where I lost all of my gains plus some. My portfolio was down 55% in 2008 alone (even more from peak to trough) vs. the S&P 500 only being down 37%. Talk about some humble pie. Luckily, I was still in high school at the time, so my portfolio wasn’t too large on a dollar basis. But at the time, it felt like a lot. And my confidence as shown on the Dunning-Kruger graph plummeted. But I still had faith that I could outperform the market as promised by Peter Lynch in his One Up on Wall Street book that I had read as a teenager.
In 2009, my portfolio rapidly recovered and that was also the year I started college. I started off college as a Finance major thinking that I’d head into corporate finance, but as my college career progressed, I realized that my true passion was in the investment world. I was fortunate to land an investment intern position during college summers and that solidified my decision.
Fast forward to a few years after college into my professional life. I was working at a Registered Investment Advisor (the same firm that I interned at) as an Investment Analyst. At the time passive index ETFs were becoming all the rage. The active vs. passive debate has been around for a while, but it seemed to hit a tipping point around that time. I remember having the debate with a coworker. He argued that will fees so low, it was better to just invest in an index fund than try to beat the market. And in the long term it was pointless to even try. And he had a point. Data shows that the large majority of actively managed Large Cap mutual funds don’t beat the benchmark over the long term. And my coworker walked the walk, too. He invested 100% of his portfolio in an S&P 500 Index fund.
I started having doubts myself and thought maybe I just got lucky with my AAPL position (which was still my largest position in my portfolio for years). So I ran a Morningstar (investment software to get historical returns of a portfolio) of my portfolio with AAPL vs. my portfolio without AAPL. Much to my surprise and immediate relief, the hypothetical portfolio without AAPL actually did slightly better than my actually portfolio which had a large AAPL position. So what that meant was my position in AAPL didn’t cause my outstanding returns, it actually slightly diluted my returns. I would have been better off if I didn’t own AAPL. So it wasn’t just a lucky pick with AAPL that resulted in my portfolio outperforming the market. My confidence level on the Dunning-Kruger path was on an upward trend.
On top of my massive underperformance in 2008, I also had multiple years of underperformance vs. the S&P 500 in large part due to AAPL underperforming. At one point AAPL hit a P/E ratio of 10. I thought it was cheap at 17 and really cheap at 13, but the P/E ratio kept dropping. But it just didn’t make sense to me so I kept holding and bought more when I could. At the time AAPL was probably the most hated stock on Wall Street. That’s why having a goal of beating the market every single calendar year is a fool’s errand. It’s a much longer game than that. And I’m totally fine with underperforming the market for years if that is what it takes to outperform since inception.
At my 10 year anniversary of investing, my portfolio had returned a 13.87% annualized or a bit shy of my 14% return goal. (If you are wondering how I came up with my 14% return goal, you can find the story here.) And at 15 years my portfolio had outperformed the S&P 500 index by 8.00% annualized, a feat only 3 actively managed mutual funds (out of thousands) managed to top.
As the years go on, I expect I’ll continue to grow in my knowledge and competence. And confidence, too. After 16 years of experience, I could probably easily make the claim that I’m an expert. But I also know that there is so much more for me to learn. And the more that I learn, the more I realize that the less I actually know. As Socrates is quoted to say, “the only thing I know is that I know nothing.”