There's only one thing you really need to know about investing in 2023, and it's both stunningly obvious and invariably forgotten: There's no free lunch.
Sure, everybody knows that with higher expected returns comes the bigger risk of loss. But time and time again investors put this most basic rule to the test in a kind of bull-market delirium. That explains the last blood-curdling year in investing, the last 15 years, and even the last thousand years.
There is always the latest financial guru claiming to have the key to sure-fire high returns. The real secret to successful investing is that if you keep the simple high-return/high-risk rule in mind, you will never go wrong.
If you are investing in anything other than a safe inflation-protected bond there is a chance you will lose money. And if you are investing in anything that promises a bigger return than the broader market, you are also agreeing to the potential for a bigger downside.
This should be the first thing people absorb when they learn about personal finance and are introduced to investing. But for some reason (greed?), even people who work in finance often ignore it.
Understanding the risk/return trade-off is also the best way to protect yourself from financial scams. If anyone ever promises you they can beat the market, one of three things is true: they are lying, they don't know what they are doing or they are charging very high fees and it's not worth it.
The fact that there is no free lunch in finance underpins modern financial theory. No matter what new innovations come our way — high frequency trading or the blockchain, for two — it will still be true.
Just look at the last few years. In 2020 it seemed like anyone could beat the market. You just had to pick the right assets (maybe crypto or tech stocks, which were offering very high returns and making lots of people rich). And TikTok was full of people offering advice on how to pick sure winners.
Now, whatever looked great in 2020 and 2021 is underperforming. Since January last year, the S&P is down 20%. But if you took on extra risk and bet on tech, your portfolio would be down 45%; If you bought crypto it's down 64%.
The only asset class that claims to be doing well is private equity, but that's also risky because it's illiquid and funds have so much leeway to calculate returns (since they are not sold in the market), so there is no way to know if those high returns are even true.
And this is normally how it goes. The riskiest investments tend to do better in bull markets and much worse in bear markets, and a down market is the worst time to lose money because everyone needs money then and your job prospects are worse.
So if any asset you invest in is doing better than the rest, odds are it isn't because you made a great bet, it's just that you took on more risk.
Issues With Risky Markets
Yet we easily forget this hard truth. Perhaps because many of us know someone who got rich on crypto and sold at the right time.
