The end depends on the beginning

November 03, 2017

Finis origine pendet.

It's Latin for "the end depends upon the beginning." And no, I didn't know that off the top of my head. The Google had to assist me.

The relevance to investing is difficult to overstate, given the mathematics of compounding returns. If the starting decision is non-optimal, the future results will be radically different.

This presents quite a conundrum, as how do you know how to get something correct when you are beginning? How do you pass the exam before you've slept through, I mean taken, the course? Isn't experience the teacher (and disciplinarian)? I am going to share a personal anecdote, from my own investment account.

Below is a graph of two indexes of small publicly traded companies, one from Vanguard (green), and one from BlackRock's iShares (orange). Years ago I bought the Vanguard index, in green. It was an error. See what looks like a slight deviation in the graph, where the orange line is doing better than the green? It's worse than it seems, because the graph is logarithmic. From April 2001 until now, $10,000 in the Vanguard fund has turned into $47,949, while $10,000 in the iShares fund has turned into $55,455 (dividends reinvested in both). For the asset class to which I was trying to get exposure, BlackRock's index fund was better constructed and likely better executed than Vanguard's. Here is the problem. I can't fix this now, because it's in a taxable account, and the tax bill I would pay would offset any hope of future returns earning it back. On a personal level I don't mind paying tax bills if I can see the logic going forward, but here I will sacrifice so much capital that the decision effectively is permanent. An early choice will forever diminish my returns, and by the time I am really old, assuming my wife lets me live that long, the number will be huge.

Finis origine pendet. I should have taken Latin instead of doubling up on gym.

Backing off the drama a bit, what to do going forward? Two things:

1. The selection of index funds that we base everything on for the rest of your life is critical to get right on day one. I have never seen a portfolio arrive from outside of One Day In July that addresses this well. Not one. I have spent hundreds and hundreds of hours studying these indexes, a process that has stretched over nearly two decades, to make sure initial constructions are excellent.

2. I keep a running Word document of my errors. I re-read the file about every six months, and look at how much opportunity cost old errors have now incurred (most of the real "losses" are in opportunity costs.) I go through this process of near-biblical self-flagellation because I don't want a repeat.

The end may depend upon the beginning, but I don't intend for them to match.

Dan Cunningham