This last week, Bill Schultheis and I recorded the second episode of  our weekly internet radio show/podcast, Behavior Gap Goes to the Coffeehouse. As always, if you have any questions, please email them to me, carl{at}behaviorgap{dot}com, and we’ll do our best to answer them during our shows.

Today’s podcast is about how to start the investing process. We use an email I received from someone looking for specific suggestions to give you ideas of how to tackle investing for the first time.

Monsters, Inc.

The desire to bring back the boring, small banking industry of the nineteen-fifties is understandable. Unfortunately, the only way to do that would be to bring back the economy of the fifties, too. Banking was boring then because the economy was boring. The financial sector’s most important job is channelling money from investors to businesses that need capital for worthwhile investment. But in the postwar era there wasn’t much need for this. The economy, while remarkably strong, was dominated by huge companies that faced little competition, and could finance investments out of their profits. And entrepreneurship was restrained: there were many fewer start-ups then than in the period after 1980. So the financial sector didn’t have much to do.

The New Age of Thrift

Still, I’m happy to see so many people discovering frugality. It’s an opportunity for us to spread the gospel of thrift. I don’t think it’s productive to spend time judging people for their past mistakes. If someone has a sincere desire to change, then I’m happy to help them do so. If these New Frugals possess the zeal of recent converts, perhaps they’ll spread the word to their friends and family, and maybe we will see a fundamental shift in American values. I believe that this country needs more frugality, not less.

Those with long-time habits of thrift should relish the current economic climate. Our smart choices will help us to weather the storm. Meanwhile, we should be glad to share what we know with others. The more people we can welcome to this way of life, the more likely it is to stick, to become a permanent part of our culture.

Uncompensated Risk is for Suckers

If you’ve done much reading about investing, you know that greater risk leads to greater expected return.

The reasoning is that, when an investment’s returns are volatile, it becomes less desirable to investors relative to investments with more predictable returns.  This lower demand results in a lower market price for the investment, thereby resulting in a greater expected return.

Here’s the catch that many investors miss: When people talk about risk being rewarded with return, they’re only talking about nondiversifiable risk.

Why? Because if risk can be eliminated through something as simple as diversification, it’s not all that undesirable. As a result, it neither decreases demand nor increases expected return.