Why systems should be part of your investment process.
Systems exist everywhere. In nature, we find almost an infinite number of hierarchical, interconnecting ecosystems that play key roles by which energy is transported and transformed. These natural systems can have a profound impact on our activities. Consider how the weather and climate systems affect our daily lives.
Even our bodies are collections of intricate systems each performing a function critical to our survival.
There are legal and political systems designed to create order and keep the peace.
Many systems operate in concert with our daily lives.
In society, we find that systems can provide for organization and guidance for human interactions. Take for instance how we drive. We follow a precise system.
Here in the U.S., we drive on the right. We stop on red. We accelerate on a green. And by everyone following this system, we are able to transport ourselves safely from one destination to another.
Or think about how when we arrive home at night and turn on the lights, we take for granted the electrical system that allows for energy to be converted to light. These systems are so common we never once question their existence.
We have formed legal systems so as to provide a systematic, orderly and predictable system by which we can resolve conflict and provide for our general safety.
We have formed political systems so as to organize around various ideologies and to allow an orderly process to govern.
Without systems, we would live in a state of anarchy.
And systems are designed to provide a certain degree of predictability.
Yes, systems exist everywhere we look — except in most investors’ approach to investing.
Why not have systems for investing?
When we examine the typical approach of many investors, we often find that it is completely random. Tips, newsletters, sound bites from financial media, advisor recommendations, friends and family, and the Internet all are the typical sources of investor “information.”
Without systems, there can be no order.
Without systems, there can be no degree of predictability.
Imagine if every time we flipped on the light switch we had to hope that it worked — that the outcome was completely random. How frustrating would that be?
Yet, that is exactly how most investors invest.
The future is unknown. That is one certainty about life in general, investing is no exception.
But imagine if we invest using rules and systems that are designed to be more predictable in their application. And imagine that the rules never deviate. Now, no matter what the markets provide investors, we are suddenly in control because of the structure provided by a systematic approach.
Systems provide a more predictable process to unpredictable information.
So what kinds of systems might an investor want to consider and how does an investor go about implementing a systematic approach?
These are the topics of much deeper explorations in future posts, but for now, consider the following:
What if we had a systematic way to determine the best asset-classes that deserve the attention of our funds based on current information and just as importantly, we knew where not to be placing our hard earned money?
In a similar fashion, we can use systems to determine the best industry and sectors and equally important to avoid those sectors and industries performing poorly.
Through the use of systematic screening and ranking processes that are 100% definable and data-driven, we can quickly sift and sort through thousands of stocks to find the very best ones that meet our criteria.
Systems can also be used to gauge the general health of the financial markets. Just as we use instruments to define weather conditions, we too can use the systematic application of measuring tools to define the general health of the market.
Know your expected outcome before you trade.
Perhaps one of the most important benefits of applying systems to money management is the idea of expectancy — how an investor can practically know the expected outcome of a trade.
That is the power of using systems and why every investor should consider using them.
But before we get to that, we need to understand perhaps the most important reason to use systems and that is this: Most investors are hard-wired to fail.
Systems help us overcome this by providing a means for investors to minimize the involvement of their emotions. We’ll dive into this deeper into how this works in future posts, but for now, we’re simply highlighting what you already intuitively know: Systems are everywhere, and without them, we’re left with chaos.