The Investor’s 4 Deadly Sins

Lessons From An Investing Legend

Image of Ryan A. Hughes
Ryan A. Hughes
October 17, 2022
The Investors Four Deadly Sins

During times like this, I often look at historical charts and read old books to help put our current environment into context. During volatility spikes such as this one, I find it helpful to see how asset classes traded during those timeframes. But, more importantly, I find it beneficial to see how investors typically behave during these environments. 

Jesse Livermore: Lessons From A Legend

One of my favorite investing books is Reminiscences of a Stock Operator, a book by Edwin Lefevre about Jesse Livermore, a famous 1920s investor who composed the Investor’s 4 Deadly Sins.

Jesse Livermore
Jesse Livermore, 1930

Jesse made his fortune by short-selling stocks on the eve of the Great Depression. He netted $100MM in four economically devasting days during the Wall Street crash of 1929. As such, he quickly became a legend within investing circles. However, Livermore became a villain to the press, especially as the disparity between Wall St. and Main St. deepened. They touted him as the “The Wolf of Wall Street.” Sorry, Jordan Belfort, you weren’t the OG Wolf of Wall Street.

Livermore was a pioneer of day trading and, at one point, one of the wealthiest people in the world. In a time when accurate financial statements were rarely published, Livermore pushed the boundaries on what could be accomplished within the investment realm. His principles on behavioral finance continue to be studied today. 

Aside from creating the 4 Investing Deadly Sins, Livermore also coined the famous saying, ” Bulls and bears make money, but pigs get slaughtered.” 

Livermore, though, later abandoned his principles and leveraged his positions too much. He subsequently lost his fortune and committed suicide in 1940.

4 Deadly Sins

Livermore’s legacy is a cautionary tale about risk management and emotional investing. In my opinion, Lefevre’s book on Livermore is one of the best studies of the intersection between investing and human nature, even though this book is more focused on active trading (which we aren’t about). In it, Lefevre outlines the investor’s four deadly sins:

The speculator’s deadly enemies are: Ignorance, greed, fear, and hope. All the statute books in the world and all the rules of all the Exchanges on earth cannot eliminate these from the human animal. Accidents which knock carefully conceived plans skyhigh also are beyond regulation by bodies of coldblooded economists or warm-hearted philanthropists.

– Edwin Lefevre, 1923

Ignorance

Financial ignorance is the lack of knowledge, education, or awareness to realize financial gains. To be financially ignorant is to lose money either through 1. actual financial losses (poor investment decisions) or 2. opportunity losses (potential profit that was not realized because a course of action was taken that did not permit the investor to obtain that profit).

Greed

Financial greed is the intense, perhaps excessive, desire for wealth. This is different than ambition, which is the desire and determination to achieve success. We saw greed on full display during the 2021 economic boom, where many speculated on extremely risky assets. No doubt, the vast majority of these speculators have realized their errors and have realized losses since. 

Fear

Financial fear is a feeling of extreme stress and anxiety, usually triggered by an impending peril or hazard. “The next big economic crisis is right around the corner!” Investors plagued by fear often attempt to suppress their losses by moving out of stocks and into something more stable, like cash. Or worse, precious metals or insurance products. This type of behavior is an example of negligence in long-term investing, which is based on fundamentals and sound data.

Hope

Financial hope is the feeling of desire and reasonable confidence for a positive return on one’s investments, regardless of the circumstances. A common saying in the financial industry is, “hope is not an investment strategy.” Many people make the mistake of simply hoping that their investments will go up simply because they want them to. As Yogi Berra said, “you’ve got to be very careful if you don’t know where you are going because you might not get there.”

Which Are Prevalent Today

While all four sins are present in every environment, I would argue that ignorance and fear are the most prevalent today.

Ignorance because too many people do not know how we got here (rising inflation and rates) and where we are going. As such, investors tend to look to what worked during the last decade and continue to invest accordingly. What worked during the 2010s (large growth) is doubtful to work again this decade. 

Fear because the global asset bubble is currently bursting, and nobody likes to see their account balance decline. But abandoning your long-term investment plan is a quick recipe for financial disaster. One should not let fear dictate any decision in your life, and this definitely includes investment decisions. Completely abandoning your investment plan is probably the worst decision you could make right now. Nobody can accurately predict when the market will bottom out or when assets will rebound. Yet, we continue to see well-intentioned people do just this.

Well-Designed Investment Philosophy

If you have a well-defined investment philosophy and a well-designed portfolio, then there should be no reason to abandon your plan. If you are tempted to make emotional investment decisions, it is time to zoom out and look at the broader picture. Yes, stocks are volatile, but they are your best best for long-term capital appreciation. Remember, volatility is the price one must pay for attractive returns. There is no way around this. 

Conversely, if you do not have a well-defined investment philosophy or your portfolio is not well-defined, then we suggest you address this quickly. The markets are currently in turmoil, and risk management is critical. 

If you have any questions or want to learn more about Bull Oak Capital, please feel free to reach out to us. We are more than happy to assist. 

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