Archive for May, 2011

The critical distinction between a good investment and a good investment decision

Two and half years ago, Apple stock was selling for around 90 dollars per share.  Now it is above 300.  If an investor put 75% of his wealth into Apple stock, would that have been a good investment decision?  Many people would say so.  Just look at the results.  More than tripling your investment can’t be bad.  The choice of individual investment does not matter for this example.  I could have chosen Ford stock, junk bonds, gold bars, or Chinese ceramics.  Many different assets appreciated at abnormally high rates over the last several years.

In spite of the success of this investment, I would argue that this was a shortsighted decision that happened to have a fortuitous outcome.  Putting 75% of your wealth in a single investment is almost always a poor idea, no matter what happens subsequently.  This investor got lucky.  In 2011, he might have another great idea and put 75% of his now larger wealth into another investment, and it might not turn out so well.  His process for making investment decisions has a fundamental flaw, and sooner or later, the laws of probability are bound to catch up with him and he will likely experience a very bad result. Read the rest of this entry »

, ,

Leave a comment