My Wealth Building Strategy for 2020 

The stock market is as perilous today as it’s been in many years.

The warning signs are many: The bull market is superannuated (second longest since WWII), the Treasury yield curve is inverted, and the S&P 500’s price-to-earnings ratio (P/E)  is close to 22 (about twice my comfort zone).

On top of that, you have the macroeconomic picture: US debt now is more than $22 trillion, the highest – by far – that it has ever been. It’s now higher than our gross domestic product (GDP) –  roughly 19 trillion!

And in case you think our president is working on that, think again. That $22 trillion figure includes a $2 trillion increase since the day Trump took office.

My Current Plan 

In past essays on wealth building, I’ve talked about “antifragility,” a concept made famous by bestselling author Nassim Taleb.

In a nutshell, antifragility is a strategy of protecting yourself from unanticipated calamities (what Taleb calls “black swans”), while at the same time positioning yourself to take advantage of them.

My strategy assumes that there will be a stock market correction in the near- to medium-term … and that it might be considerable: 25-50%.

I developed the first part of my strategy from 2000-2010, when I was writing Early to Rise. During those years, I focused on financial assets outside of the stock market – mostly real estate, debt instruments, and private enterprise. It accounted for about 50% of my wealth back then and comprises about 80% of it now.

The second part of my strategy concerns stocks, cash, and gold. I developed the bulk of it from 2010-2016, when I was writing Creating Wealth. It includes, among other things, an unusual approach to owning gold and a unique way of investing in stocks that I call The Legacy Portfolio.

My core principle with respect to wealth building is simple: Get richer every day.

In the real world, it’s difficult to follow this principle. And it’s virtually impossible to hold true to it if 80% of your NIA (Net Investible Assets) is in stocks and bonds.

In other words, you have to diversify among multiple asset classes.

This is how my NIA breaks down:

* 5% of my NIA is in debt instruments: mortgages, hard money lending, and municipal bonds (which I cash in as they come due).

* Income-producing real estate represents my largest asset class – taking up about 50% of my NIA.

* Direct ownership of private equity constitutes 25%.

* And stocks currently comprise the rest – about 20% of my NIA.

I also hold some gold and cash. Together, they represent about 5-10% of my net worth, depending on what’s happening at the moment. But I don’t consider either of them as a part of my NIA.

With this kind of diversification, I believe I have achieved a considerable amount of financial antifragility.

The income I receive from my NIA is sufficient – more than sufficient –to cover any current or future needs. So I don’t have to worry about running out of money.

If there were an economic collapse, which is quite possible, the income from these assets would go down. But it wouldn’t go down anywhere near as much as the stock market could go down.

And if I’m wrong about this, I have that gold. I’ve accumulated enough to take care of my family for years, simply by spending those coins.

So that constitutes a second fallback bunker of safety for me.

And even my stock strategy is antifragile.

The Legacy Portfolio: Big, Profitable Companies Built to Last 

I spent the first 10 years of my investing career avoiding stocks entirely.

I had my money mostly in triple-A, insured municipal bonds, which, at the time, were generating about 6% tax-free. Six percent tax-free is equivalent to about 9% in taxable investments at my tax bracket. And 9% is close enough to the historical stock market returns that I saw no reason to take a risk for an extra point or two.

As the yield on bonds diminished, I began investing in no-load index funds, which are designed to track the market. They did what they were designed to do.

Then, after I read my first book about Warren Buffett, I decided to create my own personal Berkshire Hathaway by asking two of the best analysts I worked with to build me “the stock portfolio that Warren Buffett would put together if he were starting out today.”

That was in 2011 and 2012. The original portfolio (still the core portfolio) consisted of stock in close to a dozen very large, market-dominating, dividend-giving (and dividend-growing) companies, including American Express, Coca-Cola, Wells Fargo, Nestlé, Becton Dickinson, Kellogg, Proctor & Gamble, McDonald’s, 3M, IBM, and Chevron.

My goal for the Legacy Portfolio was never – as is the case with most individual investors – to try to dramatically outperform the market. My goal was to keep pace with it, but with less volatility than I might expect from investing in an index fund.

Along the way, I developed a buy/sell strategy that is different from what most value investors do. My goal is not to maximize ROI but to accumulate as many shares of these great companies as I possibly can. So when the market is going down, we don’t sell. We wait until prices meet our target (i.e., they become historically cheap) and buy more. (Our criteria are not many. The most important is historical P/E ratios.)

Another twist that I put on the Legacy Portfolio is that I don’t reinvest dividends into the companies that issue them. Instead, I ask Dominick, my broker, to accumulate the dividends from all of the stocks and invest them in only a few companies that are the cheapest – i.e., have the most attractive P/E ratios.

Since its “official” (public) inception in 2012, the Legacy Portfolio has performed very well. I have doubled my total investment and achieved an annualized rate of return of 14.5% per year. And I’ve done it with less volatility than the overall market indexes.

So, if you ask me what I will do if the market tanks, the reply would be: I will stay consistent with my rule. I will not sell. I will buy more.

I have given myself one exception to that rule: If I feel the stock market is overvalued and due for a tumble (as it is now), I give myself license to take out some of the profits and invest them in another asset class if I can find one that offers me a current ROI equal to or better than the stock market.

To sum up all this, I’m not terribly worried about a stock market crash because I feel I’ve done all I can do to create a flexible (antifragile) portfolio of assets. But that doesn’t mean I won’t be freaked out if and when the market tanks.

If and when we do have a crash, I know that I will feel what every other investor will feel. I will feel like selling.

To obviate that, I’m doing a sort of financial meditation. I’m imagining myself looking at the bottom line of my stock account and seeing that is it down by 50%… and realizing that I’m okay with that.

I am then imagining myself calling up Dominick and asking him, “What should we be buying?”

That’s Me. What About You? 

That is what I plan to do. But to be fair, I can do this not only because I have a high net worth but because my overall wealth strategy includes all those other asset classes that aren’t necessarily tied to the stock market. Which is to say, it may be easier for me to take the position I’ve taken than it may be for you.

If I had 80% of my NIA in stocks, I would definitely be selling stocks right now. I’d sell anything that was down (and thus avoid the capital gains tax) and anything else with historically unprecedented P/E ratios.

I’d reduce my portfolio to a size I could live with given an extended 50% drop. In other words, if stocks represented 80% of my NIA and I was willing to lose only 20%, I’d sell half of what I owned.

The advice I’d give to anyone right now is this: Forget about trying to beat the market and forget about market timing. Build a portfolio of 15-30 great companies that have a history of giving dividends and that have market advantages that will make it all but certain that they’ll still be big and profitable 20 years from now.

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I’m writing this in response to a young friend who’s decided he wants to start collecting art and asked for my advice. I don’t consider myself to be an expert in any aspect of art, but I have had a fair amount of experience.

When I began to buy art about 40 years ago, it never occurred to me to think about my new hobby as an investment. I was buying for beauty, not for value.

My first few purchases were of artists I didn’t know. I wandered into a gallery one day, saw a bunch of paintings I liked, and bought them. They could have been (and probably would have been) junk art, except that I was lucky enough to have wandered into a gallery that specialized in Mexican masters like Diego Rivera and Rufino Tamayo.

Those pieces have appreciated dramatically.

Since then, I’ve bought more than 1000 pieces of art – from private dealers, from auctions, from collectors, and from artists. I’ve also owned three galleries. And along the way, I developed a set of ideas about art and the markets for art that guide my buy and sell decisions.

So this is the advice I sent to my friend and the advice I’d give to anyone interested in developing a potentially valuable collection of art.

15 Things You Should Know If You Want to Invest in Art:

  1. Art has no intrinsic value. Its value is not determined by how beautiful it is or how masterful the craftsmanship is. Its value is determined entirely by the market.
  2. The most important factor in the value of a contemporary work of art is the reputation of the artist among market insiders. (By market insiders, I mean museum curators, major brokers, and to a much lesser extent art critics)
  3. The most important factor in the future value of a work of art is the artist’s prominence in art history books. The second most important factor is the importance of the museums that own and display it. The third most important factor is the number of large corporations and wealthy individuals that own it.
  4. Understanding this, you should approach an investment in art as you would approach an investment in any historic artifact.
  5. The investment-grade art market has certain distinct differences from the financial markets. It is smaller and more controlled and less regulated. In terms of “influencers” (brokers, buyers, and critics), it is very small. In terms of dollar values, it is quite large – in the billions.
  6. Contrary to most other investment categories, diversifying does not increase safety with investment-grade art. Specializing does. It’s better to collect 100 pieces of one established artist you know and admire than one piece of art from 100 different artists.
  7. Evaluating individual pieces of art is easier than it seems because the factors that affect valuations are easy to understand and easy to gather. (This is especially true now that auction records are available online.)
  8. The factors that matter most in valuation are: artist, medium, size, rarity, and style/period.
  9. Like most other tangible assets, rarity is a major factor in price appreciation. The work of an established artist whose catalog is only several hundred pieces large will tend to rise faster than the work of an artist whose catalog is in the thousands.
  10. “Quality” is another important factor in price appreciation. Quality in the art world has nothing to do with beauty or craft. It identifies pieces that were done during the artist’s “best” period.
  11. Medium is also important. As a general rule, oil paintings are more valuable than acrylics, acrylics are more valuable than gouaches, gouaches are more valuable than crayon and ink pieces, crayon and ink pieces are more valuable than ink pieces, and ink pieces are more valuable than pencil sketches.
  12. The touted 10% historic return for fine art is somewhat contrived. It was determined retrospectively and based on the pool of artists whose works had appreciated the most. If you are careful and lucky in the art you collect, you can make 10% or more. But it’s safer to assume that the return you get will be closer to the rate of inflation.
  13. A good strategy for the beginning collector is to start with an artist who is dead and whose works are in at least several major museums. If you can’t afford to buy the artist’s “best” pieces in the artist’s “best” medium, buy the best pieces you can find in a less expensive medium.
  14. After buying a piece, learn everything you can about the artist. Not just his biography, but everything you can about the commercial history of his work, including which brokers deal in his works, which museums hold his works, and how his works have been priced at auction over the years.
  15. If you can’t afford to buy a dead artist whose works are already in museums, try to buy pieces that you like or admire. By doing that, you will get an aesthetic return on your money even if the work itself does not appreciate.
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“Books are farms. Reading is harvesting. Talking about what you read is replanting.”

– Michael Masterson

 Just One Thing: American Teenagers Are Getting Dumber

Despite decades of effort and billions of dollars spent on government programs to improve primary and secondary school education, American students seem to be getting dumber.

Earlier this year, about 600,000 15-year-olds from around the world took a test (the Programme for International Student Assessment) that is given every three years to determine competence in basic knowledge and skills.

The results of the test were announced last week. The top 4 cities in reading all came from China: Beijing, Shanghai, Jiangsu, and Zhejiang.

In the country totals, Singapore, Macau, Hong Kong, Estonia, Canada, Finland, and Ireland were at the top. The United States was far behind, along with the United Kingdom, Japan, and Australia.

Even more disappointing is that the results for US students have been going down since the test was initiated. This while students from poorer countries like Portugal, Peru, and Colombia are showing improvements.

This is not good news. But these rankings don’t convey how bad the situation is. Here’s a fact that does:

20% of American 15-year-olds that were tested last year had reading skills that were “less than what would be expected of a 10-year-old.” 

How can this be?

Education experts disagree, but one thing is indisputable: All of the expensive federal efforts that focused on low-performing students (including No Child Left Behind and the Common Core) have failed miserably.

The Common Core is the most recent of these efforts. It began almost a decade ago as a “national effort by governors, state education chiefs, philanthropists, and school reformers to enrich the American curriculum and help students compete with children around the world.”

Its priorities included increasing the amount of nonfiction reading, writing persuasive essays, using evidence drawn from texts, and adding conceptual depth in math.

That sounds sensible. And it might have worked. But once again, politics got in the way. The left opposed it because it “unfairly targeted” children of color. And some right-wing groups objected that it was an “unwelcome [federal] intrusion into local control of schools.”

So it fell apart. And left 20% of our 15-year-olds functionally illiterate.

I wonder how that’s going to work out.

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“Thaw with her gentle persuasion is more powerful than Thor with his hammer. The one melts, the other breaks into pieces.” – Henry David Thoreau


The ABCs of Inventing a Blockbuster Big Idea Campaign 

I’ve heard gurus call all sorts of sales letters “Big Idea” packages simply because they became controls or broke a sales record of some kind. These included leads that touted:

* 10,000% returns on gold stocks

* 5 words you can say to your banker to make $200

* What never to eat on an airplane

* 13 Ways to Bring in More Customers This Year

* The trading strategy that works 94.6% of the time

* An ancient Indian cure for cancer

These are not Big Idea leads. They are based, as you can see, on promises or solutions. Promises and solutions are not ideas. They may sometimes contain ideas, small ideas, which help rationalize the selling proposition. But the sale is made by the promises and the solutions, not by the ideas. The marketer or copywriter that doesn’t understand this will never be able to harness the power of the Big Idea.

As I explained in my last essay, the Big Idea was originally used by David Ogilvy to describe what he was doing back in the 1950s – magazine ads that depended heavily on images to promote brand recognition. They worked by making subtle promises for psychological benefits that the prospect would enjoy by using the product. Two decades later, Bill Bonner reinvented the term for the direct response industry. Instead of the blatant leads that were popular at the time, Bill wrote very long indirect leads about something that initially did not seem to have anything to do with the product.

When you’re writing in an indirect way, having an idea matters. But not just any idea. For the Big Idea package to work, the idea has feel big in terms of its intrinsic importance and its consequences. It has to be an idea that matters to the prospect. It must be an idea that threatens (or promises) to change the world that he lives in. It has to be exciting and amazing. Most importantly, it has to feel true.

Big Idea packages often make promises. But the stated promises are secondary to the deeper promises, which are never stated but implied. In that sense, the promise of the Big Idea package is similar to the promise of Ogilvy’s Big Idea ads. (If your lead says that the economy is going to collapse next week and “here’s how you can get rich when it does,” you have missed the point.)

What matters most is that the Big Idea must be intellectually intriguing and emotionally compelling. In fact, it doesn’t even have to be correct or intellectually sound. It can be dead wrong or illogical in some way. But if it grips the prospect’s imagination and conquers her heart, the response will be huge.

So how do you do that? And how can you know if your Big Idea can do the job?

First, you must realize that the effect of a Big Idea does not reside in its essential brilliance but in its particular expression.

During the last 25 years, for example, I’ve personally reviewed at least 100 financial newsletter promotions that were based on the same idea – that runaway debt was going to crash the stock market and decimate the economy. Half of those packages went nowhere. About four dozen did okay. And two did phenomenally well.

What was the difference between those two and the rest?

It wasn’t the core insight, since they were all the same. It wasn’t the strength of the logical argument or amount of proof offered. There were many that were stronger than the two in these regards. It wasn’t the promises made about how the prospect might benefit from the financial crises that were predicted. In general, the packages that made softer promises performed better overall.

The difference between the best and the rest was simply the way the copywriters framed and articulated the idea in the headline and lead.

There are many ways to introduce the Big Idea in a promotion. You can begin with a story or a secret or a prediction or a surprising fact. Each of these is an archetypal approach to beginning a sales pitch. (John Forde and I wrote a good book about this called Great Leads)

Within each of these archetypes there are countless possible articulations. You can, for example, conjure up all sorts of story leads. But most of them won’t work for a Big Lead packagebecause, for one reason or another, they will not have the power to move the prospect from where he is – intellectually and emotionally – when he reads the headline to where you need him to be at the end of the lead.

Getting back to our example of a financial newsletter promotion based on the prediction of an economic crisis, here’s how you do it…

When you sit down to write your promotion, you know who your prospect is. He believes that debt is bad and he is confused as to why the stock market is at an all-time high. That’s “where he is” intellectually. And “where he is” emotionally is feeling that the world is scary.

You write a headline that does its job and grabs your prospect’s attention. Now what? Now you have to move him from there to thinking that he wants and needs the product you are selling (a newsletter subscription).

To move him emotionally, you have to offer him not the materialistic promise of getting rich when the economy implodes but the promise of being a person of vision and conviction. (That is the deeper benefit that a good prospect for such a package would want.) And to move him intellectually, you have to say something that will feel big and new to him.

The two packages that did so well accomplished these requirements in spades. The first was titled “The Plague of the Black Debt.” The second, “The End of America.”

Notice that neither of these headlines sounds like something you would find in an economic treatise. Nor would you find them in an article in The Wall Street Journal. They both feel much bigger and more important than that.

Notice, too, that neither of them even mentions the promise of benefit. And they certainly don’t mention the potential for financial gain.

What they do promise is some interesting information – an explanation of how the insanely accelerating debt that the prospect is worried about will finally wreak havoc on the government and big financial institutions that have been meddling with the free market. The prospect gets an immediate payoff in the first 500 to 600 words of the lead, and is compelled to keep on reading.

The copywriters that wrote these packages understood something fundamental about Big Idea packages that most just do not get: that none of us really cares about getting rich. What we care about are the emotional and intellectual benefits that we imagine wealth will bring us.

Big Idea packages work precisely because they promise deep psychological benefits – benefits that cut through the artifice of profits and even wealth and take the prospect indirectly to a world where he has what he really wants.

And that’s why, when Big Idea packages work, they work like exploding stars.

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“An idea, like a ghost, must be spoken to a little before it will explain itself.”

– Charles Dickens


 The Big Idea: The Biggest Misconception in Marketing 

 Is there a marketing concept more misunderstood than the “Big Idea”?

Ever since The Agora became the dominant direct response publisher in the world, the term has become synonymous with breakthrough marketing packages. That’s because The Agora has long been associated with “Big Idea” promotions.

But what, exactly, is a Big Idea? Ask one expert and he’ll say it’s a big promise. Ask another and she’ll say it’s a big and clever lead. Ask a third and he’ll say it’s the idea behind a package that crushes the control.

This confusion is rampant across the marketing world. Even within The Agora companies, many marketers and copywriters use “Big Idea” to mean different things.

It was David Ogilvy, I believe, who coined and popularized the term. What’s interesting is that for Ogilvy a Big Idea wasn’t actually an idea at all. It was something else entirely.

He used “Big Idea” to describe what he was doing in the field of general advertising: magazine campaigns. His ads usually consisted of a photo (or drawing) and a phrase. The image provoked an inspirational emotion. The associated phrase made the connection between that inspiration and the product. Memorable examples include The Marlboro Man and The Man in the Hathaway Shirt.

Ogilvy’s Big Idea ads were not about better mileage or faster service or saving money. They were about notions and hopes and dreams. For him, Big Ideas were about what I call  “deeper benefits” – psychological benefits, such as affirmation and self-esteem. (“If I smoke Marlboros, women might find me manlier. And if women find me manlier, they will like me more. And if they like me more, I will feel better about myself as a man.”) They did not convey literal benefits of any kind.

This is a very important distinction – and a critical one, because it reflects the essential difference between general and direct response advertising. The primary goal of general advertising is to create brand recognition. The primary goal of direct response is to elicit an immediate response (usually, a sale). The first relies heavily on images. The second almost entirely on language.

This is not to say that language did not (or does not) play a role in general advertising. Before Ogilvy, there were many successful general advertising campaigns that relied primarily on language. But these tended to focus on a USP, such as how smooth and quiet the car’s engine might be. An image was usually present, but it was there primarily to support the USP or simply showcase the product. It wasn’t expected to carry much weight.

Ogilvy’s Big Idea campaigns were, as I said, short on words and big on imagery. And when they worked, it was the imagery that did the heavy lifting.

His understanding of imagery was brilliant and enormously successful. The Big Idea became the standard for what a great brand advertising campaign could be. And it still is today.

But in the 1980s, on the other side of the advertising pond in the world of direct marketing, the Big Idea was being used to describe an entirely different approach. Bill Bonner was having great success writing direct mail packages to sell investment newsletters. And he was doing so by writing long letters explaining what was wrong with the economy and how those problems were going to radically change the investment landscape.

Nobody was writing promotions like that at the time. Everyone was writing packages about how much money one could make by investing in gold or in a particular group of stocks.

Bill’s sales copy was short on promises and offers but big on ideas. Ideas such as: Government debt will lead to a massive recession. Or: Inflammation is the cause of all modern illnesses. His interest in those ideas was the basis of a new kind of marketing strategy. And he used Ogilvy’s term for it because it accurately described what he was doing.

Bill began his sales letters with an indirect lead – writing not about the product but about an idea that might seem at first unrelated to the product. By doing this, Bill believed, the customer would be less resistant to the sales pitch itself and more open to thinking about problems that might get him into a frame of mind (and heart) where the product might suggest itself as a natural solution.

When I started working with Bill at Agora in the mid 1990s, we began the first training program in our industry in copywriting. I had brought with me a lot of ideas about how to best write direct sales letters – not just promise-oriented pitches but offer-driven campaigns and invitations, too.

Together, we taught the full range – from the most direct leads (offers) to the least (stories). We met every day for about a year with a dozen fledgling writers, many of whom went on to have very successful careers. And we continued to develop ideas about effective copy and how to teach it for many more years.

During all that time, the status of the Big Idea as a marketing “secret” never lost its appeal. People still talked about it, wrote essays on it, lectured on it, and so on. But the definition was becoming more and more diverse.

Nowadays, the “Big Idea” retains neither David Ogilvy’s original meaning nor Bill Bonner’s reinvention of it. For most people, it simply refers to a sales campaign that works really well – i.e., one that gets a very strong response.

This is unfortunate for two reasons: It renders the term meaninglessness, and it deprives young copywriters of an understanding of the concepts behind both Ogilvy’s and Bill’s thinking.

For Ogilvy, a Big Idea was an evocative image that could be connected with a psychological benefit. For Bill, it was an actual big (i.e., important) idea that had or could have significant consequences for the prospect.

But what a Big Idea is not(and this perhaps is the key thing I’m trying to convey here) is a strong promise or a clever offer or a captivating story – or any of the other things marketers do to stimulate sales. A Big Idea in direct marketing can only be an intellectually and emotionally compelling idea.

Offering a quick and easy solution to a problem… introducing a startling fact… making a convincing argument… these are all very solid ways to structure a sales pitch. And if you asked me to do the arithmetic, I’d guess that they account for more than 80% of the successful sales campaigns that are out there today. I can tell youfor certain that The Agora has sold more subscriptions with direct leads that featured promises than it has with indirect ones that presented Big Ideas.

That said, when they work, Big Idea packages can be game changers. A single campaign can literally double the size of your business.

So how do you write one? I’ll tell you in my next essay…

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“Skill and confidence are an unconquered army.” – George Herbert

Principles of Wealth #35* 

With respect to building wealth, there are two kinds of skills: financially valued skills and financially valuable skills. Developing skills in either category is a big advantage in building wealth – but the financially valuable skills are more important.

We are all aware of the financially valued skills. They are the skills that can earn you a lot of money. Practicing medicine is every ambitious parent’s top choice for their children. But lawyering, accounting, and engineering are also popular.

The advantage of such professional skills is that they can be learned by anyone that is reasonably smart and doggedly determined. There are other financially valuable skills – like batting at 400 or having a knockout punch that requires not only dogged determination but also rare natural skills.

When my son decided to study computer engineering in college, I agreed that he would be acquiring a financially valued skill. But then I explained that if he could also acquire a financially valuable skill his opportunities for building wealth would be much, much greater.

In a note to him before he left for school, I wrote:

“There are plenty of financially valued skills. And, yes, societies and companies value people who know how to design a car engine, analyze a spreadsheet, or fix a broken arm.

“As an engineer, you can earn very good money – so long as you continue to develop your knowledge of engineering and keep up with the changing technology. But you should recognize that however valued your engineering skills may be, your employers will always think of your work as an expense, rather than as a way for them to grow the business and increase profits.

“Only by developing – and mastering – a financially valuable skill will you be guaranteed a high income for the rest of your life and perhaps one day have the opportunity to become a company owner.”

So what is a financially valuable skill?

It is one that creates wealth opportunities for others. There are many skills of that kind, but they are all related to generating sales and profits. Here are four of the most important:

The 4 Financially Valuable Skills 

Marketing: Reduced to the simplest terms, marketing is the art and science of acquiring customers at a reasonable cost. This is the most complex of the financially valuable skills. It normally takes years to acquire it. Most people that call themselves marketers do not possess this skill.

Selling: Selling is the skill of persuading a customer or prospective customer to buy a particular product at a particular place and time. There are as many ways of selling things as there are salespeople. Generally speaking, however, sales strategies can be broken into four objectives (fast, slow, short, long) and two methodologies (hard and soft).

Creating Saleable Ideas: The financially valuable skill of “creating” refers to the skill of developing product and service ideas that can be profitably sold in a given marketplace. Most businesspeople that think of themselves as “creative” have little or no idea about how to originate such ideas.

Managing Profits: Profit management has two very specific objectives – to promote productivity and reduce unnecessary costs. With respect to the protocols and processes of business (buying, selling, marketing, information technology, and accounting, for example), this requires an eye for detail and a knowledge of pricing. With respect to employees, vendors, and advisors, it requires the secondary skills of diplomacy and persistence.

* In this series of essays, I’m trying to make a book about wealth building that is based on the discoveries and observations I’ve made over the years: What wealth is, what it’s not, how it can be acquired, and how it is usually lost. 

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“All men can see these tactics whereby I conquer, but what none can see is the strategy out of which victory is evolved.” – Sun Tzu


Principles of Wealth #34* 

According to the financial planning community, asset allocation is the single most important factor in building wealth. This is misleading.  The most important factor is actually risk management. Asset allocation is just a part of risk management. The other two parts are position sizing and loss limitation.

 Risk is an element of every investment transaction. But if you know what you’re doing, most of it is unnecessary. And by knowing what you’re doing, I mean following the “best practices” I’ve discovered over the years.


Asset Allocation

Asset allocation means dividing your investment capital into different asset classes. By doing that, if one asset class tumbles, you have money invested in other classes that may not drop as fast… or may hold strong… or may even increase in value.

To show you how important asset allocation is, let’s look at would have happened to two investors in 2008.

Our first investor is “Joe.” He had 100% of his money invested in the stock market in 2008. Let’s say $100,000. In other words, he had no diversified asset allocation plan, and his money was wide open to stock market volatility. So when the S&P 500 dropped 37% that year, Joe lost $37,000.

Our second investor, “Nancy,” also had $100,000 invested. But she took a more conservative approach. She followed the traditional Wall Street asset allocation model – 60% in stocks and 40% in bonds.

Like Joe, Nancy lost some money when the S&P 500 dropped 37%. But she had fewer of her dollars in the stock market. Therefore, she lost less than Joe did. That alone makes her strategy superior. But it gets better…

Bonds are typically inversely correlated to stocks. And in 2008, when the stock market was plummeting, bonds rose 5%. So while 60% of Nancy’s money dropped 37% (her stock market losses), the other 40% of her money rose 5% (her bond gains). So Nancy actually lost only 20% of her money in 2008, or $20,000.

Had you invested your money with the “average” financial planner back then, this would have likely been your outcome. That’s why the two-asset class “Wall Street” model is far from optimal. And that’s why I recommend reducing your exposure to stock market risk with an expanded asset-allocation strategy that includes such things as real estate, gold, cash, and entrepreneurial businesses.


Position Sizing

Position sizing is a simple strategy dressed up in a fancy name. The idea here is to limit risk by deciding you won’t put more than $X or X% of your capital in any single investment.

Where asset allocation reduces overall risk, position sizing reduces the risk within each asset class.

If, for example, you had $800,000, you might put $100,000 in each of eight asset classes. That’s asset allocation. Position sizing would determine how you divide the $100,000 in each asset class between individual investments.

You might say that you’ll invest no more than $8,000 in any one deal. $8,000 is 1% of $800,000. So if one investment of $8,000 went down to zero, your Free Net Wealth ($800,000) would go down by only 1%.

Like asset allocation, position sizing is a way for conservative investors to protect themselves from catastrophic losses. I’m a strong proponent of position sizing. This is an important safeguard – especially if you ever find yourself wanting to “go big” on some gamble.

Keep this in mind: The smaller you can make your position limit, the safer you will be. My position limit is 1% of my Free Net Wealth on many of my stock investments. But when you are starting out, it will be hard to set such a small limit. A good rule of thumb for most people is 3%-5%.


Loss Limitation

When you use position sizing to buy stocks, you are limiting your potential losses to a percentage of your portfolio (1% for me – maybe 3%-5% for you). But you can further reduce your risk by attaching a “stop loss” to each stock you buy.

A stop loss predetermines the price at which you will sell a stock if its price drops that low. If, for example, you set a 25% stop loss on a $20 stock, you will sell it if its price drops to $15. This reduces your risk for that stock to 25% of its position size.

Getting back to our earlier example and assuming that you have $8,000 invested in the stock (your position limit)… If the stock’s value dropped 25% to $6,000, you would sell it. You would take a loss of $2,000 and no more. And if, as in our earlier example, you had a total of $800,000 invested, your total loss on that investment would be only one-quarter of 1% of your Free Net Wealth.

Stop losses allow you to control what you are willing to lose. They remove emotion (an investor’s great enemy) from consideration when a stock, a group of stocks – or even the entire stock market – is tumbling.

And as you can see, when you combine stop-loss limits with position sizing, you reduce risk dramatically.

* In this series of essays, I’m trying to make a book about wealth building that is based on the discoveries and observations I’ve made over the years: What wealth is, what it’s not, how it can be acquired, and how it is usually lost. 


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 If you are not happy now with what you’ve got, you won’t be happy later if you get more.” – Michael Masterson

Just One Thing: You’re Not a Pharaoh. Don’t Act Like One

Several years ago, The New Yorker published a cartoon of a man on his deathbed saying, “I wish I’d bought more crap.”

That says it, don’t you think?

The pharaohs apparently believed they could take it all with them. So they did. But when their bodies were found years later – as desiccated, linen-wrapped bones – their treasures were gone. Plundered.

That’s the thing about Mother Time. She’s a Socialist. Sooner or later, she’s going to put your hard-earned things into the hands of others. Whether you like it or not.

You can write a will. You can spend a small fortune on an estate plan that will ensure, for some amount of time, what will happen with your “things.”

But even the best legal work can be thwarted by legal work that comes later, when you are no longer around.

The problem is people. As the late, great Joe Gondolfo, life insurance salesman extraordinaire, used to say from the podium: “People change when people die.”

* You leave all your money to rebuild the local library, where you volunteered during your retirement. A year after you are gone, there is a change in the board. The new board decides to sell the library and invest the proceeds in a technology school. “Books are passé,” the board president says.

* You have three rare coin collections, each worth $150,000. You leave one to each of your children. By the time you go, one is worth $300,000, another is still worth $150,000, and the third has depreciated by 300%. Your kids are unhappy with the situation. They secretly blame you.

Your financial life can and should be divided into two parts:

Part 1. Earning money to acquire things you need, and

Part 2. Deciding what to do with those things when you no longer need them.

Most people put off Part 2 as long as they possibly can, until death is knocking at the door. Many never face up to Part 2. They go to their graves owning everything – the house, the valuables, and the money.

This is not a good idea. I’m assuming you know that, so I won’t belabor the point here.

My view is this: Once you have bought all the things you need to live comfortably, additional buying will be counterproductive. You will be spending money on things you don’t need for the very ephemeral dose of dopamine it will give you. But buying them won’t give you half the pleasure it once did… when you needed them.

Moreover, these “things” will start to accumulate – in your basement and attic and closets. You may even rent storage units to hold onto them.

And then what? You die and Mother Time distributes them as she sees fit. Your wishes no longer matter. And she’s a Socialist.

There is only one thing you can do about this. No, two:

  1. Stop accumulating things you don’t need.
  2. Start giving away the accumulated things you don’t need now.

So before you buy anything else, ask yourself these questions:

* Am I going to actually use this thing?

* How much pleasure or satisfaction will it give me?

* Is there something else I can do with the money that would give me greater pleasure?

If, after answering these questions, you decide to buy the thing in question, ask yourself this: Who should I leave it to after I’ve stopped using it?

Then don’t wait till you die to give that thing away. Give it away the moment you stop using it.

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“The most important secrets of every business are almost always invisible to outsiders – especially investors.” – Michael Masterson

Just One Thing: The Economics of Overseas Resort Development in One Lesson 

A colleague writes:

An associate I’ve worked with for a while and come to know and respect has developed a high-quality, eco-friendly project on the Pacific coast of Costa Rica. They are well along and are now raising equity capital to build out the central village. They are in active discussions with some boutique hotel companies as well.  

They have around $1.5M committed toward the $5M raise for the village construction. 

Great location, top surf break, centralized solar power system coming in, mini-farm, beach club, etc. 

I can attest to the intelligence and integrity of the co-founder.  

They are seeking investors, but also are keen to make deals with publishers to promote lot sales. Possibly even an exclusive. There are multiple phases so quite a bit of upside on lots ahead. They’ve sold quite a few lots on just word of mouth with no real promotion. There are houses going in. 

This is a very well planned and thought out project with great people in charge.

Sound interesting?

If I were asked to write a sales letter promoting this property to investors, I’m pretty sure I could make a strong argument with these details.

But would it be a good investment?

Here’s the thing: Every business sector has its own logic. And it’s an internal logic, not visible to outsiders. Until you’ve been in the business, you can’t know how it really works. And often, the most important circuits of that internal logic run differently than you’d expect.

In this case – developing a resort community in a foreign country – having a great piece of land is not nearly as valuable as you might think. In fact, it’s more often a liability than an asset.

When my partners and I got into the business more than 20 years ago, we bought a huge swath of land on a beautiful stretch of Pacific Ocean coast. The views, the surf, the opportunities were amazing. And we paid something like $500 an acre.

Today, those acres are selling for a minimum of $100,000 each. So we must be making a fortune, right?

That’s what we thought. It turns out that in this particular business there are three things that matter much more than the cost of land. One is the cost of infrastructure. Another is the cost of money. And the third is the cost of sales.

Infrastructure: Before I got into the business, I thought infrastructure costs  – electricity, running water, roads, sewage, etc. – would be the same, or even less, than they are in the states. But when the location has no running water, sewage services, or reliable electrical service, and when you have to build the roads yourself, the cost can be much more than you’d pay in the States.

Money: Development takes time. And time is money. It doesn’t matter whether you are using equity or debt, that money’s going to cost you. It’s going to eat up the profits. The longer the project takes to complete, the higher that cost of money. And it always takes longer than you think.

Marketing: Forget about the 3% to 6% sales commission you’re used to paying in the States. That won’t get your lots sold in an area that has no published listings and, more importantly, no local demand. What you need is a targeted marketing campaign to the 0.1% of Americans that are candidates for this kind of property. And the cost of that marketing is very high. If you are good, it will cost you 50% of the sale price.

So back to that $500 lot that sells for $100,000… The infrastructure costs – per lot – will be i $30,000 to $40,000. The cost of money, given the fact that the project will take at least twice the time you thought it would: another $10,000. And the marketing: as much as $50,000.

Yes, good money was made. But very little or none of it went to the investors.

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Just One Thing: Are You a Grower or a Tender?

Take This 10-Question Quiz and Find Out 

If you want your business to run smoothly, manage it well. Tend to the details. Think in terms of people, protocols, and production.

If you want your business to grow, forget about all that. Put someone in charge of it who is capable of creating growth.

Growers are rare birds. It’s quite possible that – other than you – your business doesn’t have a single grower in its employ.

Or maybe it has one or two, but they are not being given the liberty they need to do what only they can do. In that case, their superpowers are negated.

It’s also possible that you are not a grower – that once you were but now you are a tender.

Here’s a quick test to find out. Take it yourself, give it to someone else, or take it on behalf of someone you supervise.

Management Personality Test: 10 Questions Based on the Common Impulses and Characteristics of Growers 

  1. What do you care more about – quantity or quality? Would you rather have a bakery known for being the best in the city… or a factory selling more baked goods than anyone else in the state?
  2. What do you typically think about at work? How to solve problems… or how to boost sales?
  3. Do you welcome new marketing and sales ideas? Do you see them as exciting opportunities… or as extra work that will just screw thing up and slow things down?
  4. Would you describe your management personality as understanding or impatient?
  5. On a scale of 1 to 10, how competitive are you?
  6. Are you fair about the expectations you have of your fellow employees and subordinates? Do you demonstrate that fairness… or do you frequently indicate that you’d like things done faster?
  7. Do you care about other people’s workloads or problems? Or do you care only about getting your own agenda done ASAP?
  8. When someone suggests a new product, protocol, or plan to increase sales, do you endorse it immediately… even though you are not sure it will work?
  9. Do you understand the need for bureaucracy? Or do you have zero patience for it?
  10. With respect to your career, what’s more important: being admired for your character… or venerated for your success?
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