Let’s talk about marshmallows and investing. In case you think I might have finally lost it, there is a point here. We can learn a lot about investing from marshmallows.
In the 1960s, Stanford University’s nursery school ran an experiment. A group of four- and five-year-old kids were taken into a room and seated at a table. Right in front of them was a marshmallow on a plate. The researchers gave the children a choice. They could eat the marshmallow that was right in front of them now or wait. And if they could wait, the researcher would give them a second marshmallow. Most of the kids chose to wait. And why wouldn’t they? They’d get two marshmallows instead of one. What a great deal!
The researcher left the room, but a camera was recording the children’s reactions. I have to tell you, watching the video of their reactions made me laugh, but also feel sad. Many of them stared at their marshmallow, squeezed it, and did everything in their power not to eat it. In the end, most of the children couldn’t resist. They’d bite into the marshmallow and wouldn’t get another.
So, what does this have to do with investing? This experiment is what investing is all about: delayed gratification. The investments in our various accounts generally have a reason we bought them. Perhaps we thought they were underpriced when we bought them, or maybe there was a great long-term theme and sounded attractive, or any number of other reasons. Whatever the reason, we thought they would ultimately go higher in price and give us an attractive return on our investment.
It is often said: “I think I know what will happen, but I can’t accurately tell you when.” What we’re facing is taking small profits today (eating the one marshmallow now), or waiting to see larger profits (getting two marshmallows) in the future. That’s what investing is all about. It sounds simple, but it’s not easy. Hypothetically, would you rather make a 10 percent return in a year or a 50 percent return in three years? How you answer that question shows how successful you might be as an investor.
Having a small gain sitting in your brokerage account makes it very tempting to sell and lock in those profits. However, those who have the willpower to delay the gratification of making a quick profit are generally the ones who will make the most money in the long run. Of course, there is a lot more to it than that. We need to be reasonably certain that the companies we invest in have strong fundamentals and a favorable long-term outlook. If that changes, it’s time to go.
In the 2019 Berkshire Hathaway Shareholder Meeting, Vice-Chairman Charlie Munger answered a question about delayed gratification. In so many words, he basically said that the most successful investors were the ones who deferred gratification. While most investors want to make a quick buck, it’s the investors who delay gratification that make much larger gains in the future. These investors held onto their trades for years, or even decades, and didn’t sell out of positions due to short-term fluctuations and panic.
I’m sharing this marshmallow story and Munger’s insights today because of a story I saw recently where an investor was asking a fund manager, “Why aren’t we talking profits in” certain stocks that had short-term gains. The short answer was: “These companies have a long runway ahead. In other words, we still see them growing and their stock prices rising.” The key here is the long term.
The old Wall Street adage, “no one ever went broke taking profits” is somewhat true. No one ever went broke doing that, but most never got really wealthy either. So if you’re ever tempted to take a quick profit just because it’s sitting right in front of you, remember the marshmallow experiment. Delayed gratification is often the key to making more money in the stock market. Thanks for reading.
The opinions voiced in this material are for general information only. Investing includes risks, including fluctuating prices and loss of principal.
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About Nick Massey
Nick Massey is President of Massey Financial Services in Edmond, OK. Nick can be reached at www.masseyfs.com. Securities offered through LPL Financial, member FINRA/SIPC. Investment advice offered through Householder Group Estate and Retirement Specialists, LLC, a registered investment adviser. Massey Financial Services, LLC and Householder Group Estate & Retirement Specialists, LLC are separate entities from LPL Financial.