You only need to read two books to get started in personal finance and investing.
I know this because I have read dozens. I’ve read so many that these books have started to mesh into one great big squidgy ball of stocks and pensions and mortgages and everything else personal finance and investing related.
Very few actually cut through this mess and make an impact. Very few stand out.
Because most books of this type are pretty useless. And the useless books are usually useless in one of three ways. They usually fall into one of three categories.
These are those books whose entire content can be reduced to one sentence summarised by “Get out of debt, save money, invest”. And that’s a best-case scenario. Often they provide less detail: “Work hard!”, “You can be a millionaire!”, “Set goals and achieve them!” (the information is usually exclaimed at you). Honestly, these authors may as well tell you to “Be good at personal finance and investing”.
“Studies” of millionaires
Some authors take a different approach. Instead of baseless motivation, they give you prescriptions based on observing the lifestyles, habits, income-generating mechanisms, and history of the rich. They then induce that the commonalities they observe between this set of rich people are what made them rich. So you should strive for these commonalities in your life. To get rich.
This is an inductive error that ignores survivorship bias and the direction of causality. That was a pretentious sentence that can be explained more clearly by the following: these books fail to address the fact that 1) people have followed these instructions and are not rich and 2) rich people adopt many of these behaviours after they get rich. Now for some examples of the above: 1) “All these rich people took risks!”. As I’m sure many now-homeless people did, too. 2) “All these rich people exercise.” But where were they doing that before they got rich? Were they really doing yoga in the morning when their business was on the verge of collapse? I have my doubts.
Books of this type take obvious psychological concepts which have been known and understood for 000s of years and apply them to money. You should not check your portfolio every 23 minutes or compare your lifestyle to others or invest in bubbles near their crescendo, etc. Everyone knows this. It’s actioning this knowledge that’s hard. And sadly no one has figured that out yet.
What you actually need
90% of personal finance and investing books are some combination of these three categories and should be avoided. What beginners actually need is very simple:
- How to get out of bad financial situations
- Then earn/save some money
- Then invest/spend this money
Sprinkle some knowledge of terms and the space in general on top and you’re golden.
I Will Teach You How To Be Rich
My favourite book when it comes to addressing the first two points is I Will Teach You How To Be Rich (IWT) by Ramit Sethi.
In IWT, Ramit (I call him Ramit because we’re pals, in my mind at least) outlines a 6-week programme to get you started in personal finance. There’s mountains of great content and specific tactical advice here but the main take-aways are (in order):
- Manage your credit. How to start repaying your debt and building a good credit record.
- Choose a good bank account. You’re trying to minimise fees, maximise interest, and get the account with the best overall terms.
- Spend consciously. Pay yourself first by automatically allocating income to monthly fixed expenses, long-term investing, short-term investing/saving, and guilt-free spending. Spend freely on things you L.O.V.E and cut spending ruthlessly on the rest.
- Low-effort investing. Set up automatic investing in buy-and-hold, passive strategies.
- Minimal management. The beauty of this system is that it doesn’t require any real time to manage. Just take a few hours bi-annualy to rebalance/adjust your portfolio, update your goals, and change pot allocation if needed.
This is an essential book for those starting with 0 idea of what they’re doing. It covers points 1 and 2.
A Random Walk Down Wall Street
For point 3, I recommend A Random Walk Down Wall Street (RWD) by Burton Malkiel. Malkiel (he and I aren’t as tight as me and Ramit) offers a comprehensive guide to retail investing for beginners, outlining the landscape and how to start your investment journey. The book has 3 main sections:
- A history of investing and how the pros do it. He takes you through the bumpy history of investing throughout the 20th century, which is that of bubbles and trends. This is designed to scare the sh*t out of you so you don’t fly in guns-blazing. He also outlines how the professionals actually invest: using fundamental analysis; technical analysis; and modern portfolio theory/efficient market hypothesis.
- It’s very hard to beat the market. As part of the above he discusses the flaws of each of these methods. He then combines these flaws with the shaky-at-best record of professional asset managers to illustrate two points. First, that these guys may be arrogant and dress fancy and seem like they know what they’re doing, but they often don’t out-perform a simple buy-and-hold strategy. Second, the fact that active asset management, e.g. picking stocks, is really hard.
- Passive investing. Given this fact, according to Malkiel, it’s better to invest passively. He adds to this fundamental conclusion by first outlining the basics of retail investing. He explains what the different assets are. He mentions the benefits of diversification. He emphasises patience and longevity. Finally, he signs off with an introduction to life-cycle investing and his belief in the strategy.
This book covers the gaps that IWT leaves in terms of investing. It’s a ‘red pill’ for those utterly unaware if/when/how to invest. It’s all you need to get started on point 3.
Necessary but not sufficient
These books are just the beginning. They are a partially-flawed introduction to the area.
The instructions in IWT on how to get out of debt, how to automate personal finance, and how to spend guilt-free are great, but it comes up short when it comes to investing. It’s also a little too goals-based, which is an approach I disagree with.
RWD fills some of this investing hole. It’s a perfect introduction to investing that gives you all the information you really need to start. But Malkiel’s conclusions are too certain and the overarching investment approach is a little naive. Reality is slightly more complicated than he is letting on.
Close but no cigar
If you read these two books you’ll be in the top 10% of the population in terms of personal finance and investing knowledge. And you’ll be in the top 5% of people when it comes to having your finances in order if you actually implement the initial steps.
But that’s not enough. These books fail to properly deal with the more complex areas of personal finance and investing and to give a proper explanation of the tactics being prescribed. For that you need other sources.
This was a guest post from Haydn who is the author of perpetualprudence.com. This is a blog that takes a step back from the tactics and tools of personal finance/investing to consider the why behind the recommendations. He’d love to collaborate and support others interested in similar topics – drop a message to @HaydnMartin_ on twitter to get in touch!