Great insight by Brian Hertzog
Here’s an equation for you: compounding returns, plus lots of time, equals a really big number. Alright, let me back up some. I don’t normally write on finance, but since I’ve been reading a ton on Warren Buffett lately, I thought I’d share a few useful nuggets.
Billionaires see the world differently. No surprise here, that’s part of what enables them to produce billions of dollars of value. But aside from trade secrets, and powerful connections, there’s an underlying principle that people like Warren Buffett use that you can apply to your life, today.
That is, the magic of compounding returns. Before you fall asleep and close this tab, let’s say for example, you don’t know how to swim. You decide that each day, you’re going to improve your swimming skills by just 1%. In the first few months, you’re not going to improve much. But, if you have the patience and foresight to stick with your daily improvement goal for a year, how much better at swimming do you think you’ll be by the end? Two times? Five times? Ten times? How about, thirty-eight times.
That’s right. If you make 1% daily improvements on any skill for a year, by the end of that year, you’ll have increased your return on your principle by approximately 3800%, or thirty-eight times the original amount. Pretty cool, huh?
Protecting Your Principle
Warren Buffett’s first two rules of investing are as follows: Rule number one, don’t lose money. Rule number two, see rule number one. When you lose money, you eat away at your compounding potential. If you start with one dollar and lose 50%, you’ll need a gain of 100% to recoup your loss. On the battle field of the markets, every percent counts, and each hit is an opportunity cost against your future earning potential.
You can apply this to anything you’d like to improve over time. If your health is important to you, as it is to me, try not to eat anything that will be detrimental to your wellbeing. If you want to grow an audience for your blog, make sure your work is being distributed in such a way that won’t harm your personal reputation. At the same time, do anything and everything you can do to add to your principle.
Shifting The Time Horizon
Most people have relatively short time horizons. Not billionaires. Buffet understands that if he can buy businesses that return 20% of his capital year over year, then in ten years, he’s going to make more than six times his original investment.
Jeff Bezos, the CEO of Amazon.com definitely understands the value of long-term thinking. His company did $89B in revenue last year, but lost money. Most people would look at that and then freak out. If you can’t turn a profit on almost $90B, when will you ever make money? But Jeff’s vision for Amazon extends beyond the average person’s radar. Every dollar that Amazon could stuff away in an offshore bank account, Jeff invests back into the growth of the company. Will it work? Maybe. But it seems to be, thus far.
If you’re patient, protect your principle, and add value daily, you’re going to do well. Warren Buffett told his sister early in his life that he’d become a millionaire if he could live long enough. For most people, that’d be a lofty statement, accompanied by lots of wishful thinking, but I have no doubt that when Buffett said it, he didn’t bat an eyelash. He just understood.
So, what’s something you can improve by 1% today?
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