3 things I learned investing thousands of dollars of The Motley Fool's money

what I learned 2

About a year and a half ago, my employer, The Motley Fool, came to me with a great opportunity.

"Why don't you," they said, "take a fistful of our money and invest it in the stock market."

Pretty cool, huh?

Fast forward to today, and I've moved to Berlin (Germany, not New Hampshire) to help launch Motley Fool Deutschland . That move has unfortunately meant that I have very little time to continue investing The Fool's money.

So, after this article is published, I'll try to hide my tears as my Real Money Portfolio is liquidated. Fortunately though, I can take with me a few lessons that I think have made me a better investor. And perhaps these lessons can help a few of you too.

Lesson 1: Invest already! This one may sound crazy, but let's try it: If your aim is to invest your money to get long-term returns then you should ... invest. Now. Not later. Not next year. Now.

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For most of my time investing The Fool's money, I found myself sitting on a considerable amount of "dry powder." If you happen to be a private equity firm -- which pockets fees even on money that's not invested -- that may not be such a bad thing. If you're trying to outpace the S&P 500, it's not a great play. Though my stock picks on average beat the market, when you considered the drag that the cash provided, my overall portfolio trailed the S&P.

Sure, in retrospect we can look at certain time periods and say, "It would've been much better to be sitting on cash then!" And that, plus a roll of quarters, might get you through a New Jersey toll booth. But are many (any?) of us really any good at figuring out those particularly good or particularly bad times to invest as they're happening?

Now step back and look at the S&P over long time frames. Time that you spend with your cash on the sidelines is time that you're not earning returns. As my Motley Fool buddy Morgan Housel has pointed out on countless occasions, the best investing is often just being boring and consistently investing.

Note: I'm not saying that you should be 100% or 120% invested at all times. But for most people with a long investing horizon, being 40% in cash isn't going to help you reach your financial goals.

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In my case, the results I produced for The Fool would probably have been considerably better had I spent less time twiddling my thumbs and more time getting that cash invested.

Lesson 2: Know what you know. At the outset of my portfolio, I said that I would be investing solely in financial companies -- that is: banks, insurance companies, private equity managers, and the like. I decided that even though I knew that the financial sector as a whole would go in and out of favor as compared to the other sectors in the S&P. And I was right: Unfortunately, the sector was comparably out of favor for pretty much the entire run of my portfolio.

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Between the date of my first investment for the portfolio and now (March 23), the S&P 500 was up close to 24%. Meanwhile, the Vanguard Financials ETF (VFH) -- which has top-10 positions in companies which I also owned for the Real Money Portfolio -- was up less than 19%.

Despite that, as mentioned above, when we strip out the impact of my extra cash, the individual picks in my portfolio beat the market.

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If you're planning to invest in individual companies, I find it hard to overemphasize the importance of understanding the industries and companies that you're investing in. And I don't care what kind of investor you are because if you're a ...

  • Buffett disciple that invests in "great companies at good prices," then you better know what a great company looks like. If you don't really understand the industry/company, it'll be really hard to figure out whether it's really great.
  • Hard-core value investor, then you can't possibly hope to be able to build any sort of reasonable valuation for a company unless you really know what makes it tick. Throwing a bunch of number-puke into a spreadsheet doesn't count as a valuation.
  • Long-term growth investor, then it's only when you understand the industries, technologies, companies, and trends that you'll have a shot at identifying the companies that will thrive over the coming decades.

And I could go on.

Know what you know, and invest in things that you understand. Investing is hard enough as it is, there's no sense complicating it by trying to invest in industries and companies that you don't understand.

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I respected this idea when I decided to focus my portfolio solely on financials. But through the experience of running the portfolio, I've become even more convinced of its importance.

Lesson 3: You don't need a lot of ideas

I didn't buy all that many companies in my Real Money Portfolio. Instead, I mostly purchased and then repurchased the companies that I had already found, researched, and understood.

I often fall into the trap of wanting to chase every squirrel that runs into my periphery. But when I let that creep into my investing, I end up with a portfolio full of companies that I only half-understand (see above for why that's a bad thing).

On the flip side, when I have a portfolio that's smaller and focused, there's far more opportunity to get to really know those companies and understand what's going to make or break them (see above for why this is a good thing).

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I believe in diversification, but I don't believe that diversification means buying a lot of random companies that you've barely researched (yeah, yeah, see above again). If you can't diversify enough across individual companies that you know and understand, then a good magic trick is to diversify in one wave of the wand by buying an index fund alongside your individual stocks.

If we want to follow Buffett and his lust for "great companies" -- and why wouldn't we want to? -- then we have to face up to the truth that great companies don't come in bushels. They're out there, but a portfolio of 200 stocks is probably not a portfolio of 200 great companies.

Matt Koppenheffer writes for The Motley Fool. He owns shares of Vanguard Financials ETF.

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