The investment industry often tries to sell complicated investment products as “sophisticated” ways to grow your money. In this NYT article they discuss the perils of complicated and opaque investing products:
From the article:
Regulators across the country are confronting a wave of investor fraud that is saddling retirement savers with steep losses on complex products that until a few years ago were pitched only to the most sophisticated investors.
Here’s the reality: Successful sophisticated investors don’t like complicated investments. In fact, my experience in the venture capital and entrepreneur world has shown repeatedly that the best investors avoid needlessly complex investments almost entirely. Why? Because they hide tons of risk behind all the moving parts.
I really dislike complicated investment products of any sort. I don’t care what is being promised, chances are there are significant risks buried in it that will come out eventually.
Keep investing simple. The simpler you keep your investing, the more likely you are to grow it without any surprises. Here are some quotes from our book that hit on this idea repeatedly:
If you walk away from this book with anything, it should be the idea that you do not need a complicated investment strategy to do well in the markets. In fact, it’s just the opposite. A simple strategy will often outperform complicated ones over time.
For most investors, the more complicated an investment is, the more likely it is to lead to losses due to unknown or poorly understood risks. Despite this reality, many investors have been convinced that the more complicated an investment is, the more sophisticated it must be. It is important to know your limits and not let overconfidence lead you into something you know little or nothing about.
[W]hen Craig was raising venture capital money he often saw that the best ideas and successful companies could quickly explain what they do. Their ideas were simple to understand and the business could be easily evaluated for risks. Yet there were many (unsuccessful) entrepreneurs who had horribly complicated ideas that were very difficult to understand. Invariably, experienced venture capitalists would completely avoid these complicated investments. These investors know from hard-earned experience that complicated investments that they don’t fully understand rarely turn out well.
If you don’t understand how an investment works within about five minutes, walk away. Even if you miss a hot new opportunity because you don’t fully understand it, there will be duds that you will also avoid by staying away. The most successful investors on the planet have no shame in admitting they avoided an investment that they didn’t understand. So don’t let anyone make you feel guilty for staying away from something that doesn’t make sense to you.
Investors should invest as simply as possible. This strategy applies even to very large portfolios. Complexity kills returns. Complicated investing strategies and products can conceal many hidden costs and risks that may be hard to see from the outside. These costs and risks will often not be discovered until it’s too late.
Investing does not need to be, nor should it be, complicated. There is a strong relationship between complicated investment products, lower performance, and higher risks—all things you don’t want.
Invariably, the more complicated and opaque an investment product is, the more likely it is to have hidden risks that simpler investments do not have. What investors want to do is identify and diversify against known risks intelligently. What investors do not want to do is have any risks come as a surprise. Surprises can be expensive. Unfortunately, complicated investments are often full of surprises. Investors should not go out looking for trouble if it can be easily avoided by keeping things simpler.
Keep it simple!