Introduction

Any normal person using the customary three percent of the brain can pick stocks just as well, if not better, than the average Wall Street expert. - Peter Lynch, One Up On Wall Street

The stock market is the greatest game you will ever play. Not only will you be playing against every other person in the market, you will be playing against yourself. It requires discipline, concentration, patience, and objectivity. The last one, being objectivity, is particularly difficult since it is so easy to act on emotion when money is involved.

Playing the game at all requires you to be above average. Outperforming the market, by definition, requires you to make better decisions than your average peer. If you do not outperform the market you are better off investing in an S&P500 Index Fund and calling it a day.

Though this may seem daunting, there is a silver lining. The traits list above to be successful in the stock market are not intelligence, wealth, or a finance degree. Anyone can become a winner.

Investing. Why bother?

So why should you learn about investing, particularly in the stock market? The answer to this question is foundational. As you learn about investing and develop your strategy, it is important to remember the big picture and why you should be investing in the first place.

If you are young like I was when I started investing (I still am young, but comparatively less so now) you likely don't have a lot of money to invest. Therefore, the financial returns you can expect to make from investing are pretty low in dollar terms. The average return of the S&P 500 Index is about 10% p.a. Investing $1,000 in this Index will return $100 in an average year (less tax). That $1,000 has to stay in the market for a full year in order to realise that return. That means no splurging on the latest iPhone or that trip to Bali.

That $100 is not guaranteed either and you could potentially lose money instead. Assuming I have a casual job, I could instead pick up just one extra shift during the year and make that $100 guaranteed.

Making that initial leap into the great unknown of the financial markets is an emotional hurdle that takes courage to overcome. The possibility of losing money alone is enough to deter most young people from investing.

For young investors, it is my strong opinion that the experience and knowledge you gain from investing at this early stage is worth far more than the returns you make. The skills you learn now can be applied later in life, when you have much more to invest. Then, while everyone else your age is learning the ropes at 30 (when mistakes are much more costly), you can cash in your experience and watch your money grow. With this in mind, however little money you have to invest with is almost irrelevant. You earn the same amount of experience by investing $50 as you do $1,000.

But the real answer to the question "Why bother?", and the single most important reason you want to invest no matter your stage of life, is compound interest. Called the eighth wonder of the world by Albert Einstein, compound interest is the multiplying effect that cumulative investments, like stocks, have on your wealth.

To see the power of compound interest, imagine you have two options:

Option A - $1.0 million in your pocket right now.

Option B - a single cent (that's $0.01) that doubles every day for one month.

A cent that doubles every day for a month? Pffft. It would take a week to turn into $1. No thank you!

If you chose option B, how much would you have at the end of those 31 days?

$21,474,836.48. That's $21 million.

Compounding in the Stock Market

Now, you're not going to double your money that quickly by investing in stocks. But investing in stocks does expose you to this kind of power. Let's use a more realistic example to demonstrate.

Imagine you are 20 years old and earn enough to put $500 aside each month to invest in an S&P500 Index Fund which returns 10% p.a.. Sound reasonable? Let's see what happens.

At 33, you have pretty much doubled your money. At 50, you are a millionare. And at 60 you have over $3 million.

I invite you to use the calculator I used to make these calculations. Play around with some numbers and see what happens to your wealth!

This effect is also known as the snowball effect. Imagine a snowball rolling down a snowy mountain. In the beginning it grows slowly, but as it rolls down it gathers more and more snow as its surface area increases.

The trick to compounding is that it is extremely slow. To make matters worse, it is extremely difficult for us humans to value large sums of money that exist far into the future. As human beings, we make choices with emotions. I can easily measure the emotional benefit of spending $500 now. It is tangible and I now how happy it will make me. $1M in 30 years' time is a foreign concept to us, and its emotional benefit is blurry. This phenomenon is called temporal discounting.

This is why it is common for the financial influencers you see on social media (a.k.a "finfluencers") to pedal "get rich quick" schemes that involve speculation and short-term trading. In our primitive brains, future sums of money lose their appeal when compared to the promise of huge gains in the near-term. The problem with these strategies is that they are inconsistent and involve a high likelihood of losing money. The cumulative effect of compounding is undone when you lose money, which has a signficant impact on your wealth over the long-term.

The first rule of an investment is don’t lose money. And the second rule of an investment is don’t forget the first rule. And that’s all the rules there are. - Warren Buffett

Hopefully you have heard of Warren Buffett. He is the richest investor of all time and has a net worth of 140 billion USD. To highlight the asymmetrical nature of compounding, 99% of Buffett's net worth was earned after his 50th birthday.

In his book, The Pyschology of Money, Morgan Housel explains that Warren Buffett is undoubtedly a phenomenonal investor (his average annual return is around 20%), but attributing his success to business accumen alone is misleading. The real key to his success is that he has been a phenomenonal investor for over 80 years. Buffett is currently 94 years old and bought his first stock when he was 11.

Warren Buffett owes his success to being disciplined and not pursuing unnecessarily risky or speculative investments (refer the first rule of investing above) and simply giving it time to play out.

Hopefully this impresses the importance of starting early when it comes to investing, and that investing successfully takes patience and requires you to adopt a long-term view.

The best time to plant a tree was 20 years ago. The second best time is now. - Chinese proverb