Understanding the Impact of Conflicts of Interest on Investor Returns and How to Build a Winning Portfolio

Over the years, I’ve often mentioned that the biggest risk you face as an investor is your lifelong exposure to conflicts of interest. The daily costs of having these conflicts settled in somebody else’s favour start at low levels, but grow like compound interest. It’s rare that any single one becomes more than an annoyance. But over the length of an investing career, they can cut deeply into your life savings, even if most cost you little more than cents a day.

How Successful Investors Get RICH Learn everything you need to know in 'The Canadian Guide on How to Invest in Stocks Successfully' for FREE from The Successful Investor. How to Invest In Stocks Guide: Find 10 factors that make your investments safer and stronger.  I consent to receiving information from The Successful Investor via email. I understand I can unsubscribe from these updates at any time.

You might say conflicts of interest go back to the practice of coin clipping in ancient empires. Back then, newly minted gold coins came with rough edges. Governments and merchants made a practice of shaving off tiny bits of gold from coins that passed through their hands. As time passed—centuries in historical time, eons in financial time—the practice evolved.

Many of today’s conflicts of interest are a little like a cross-breed of a tax and a cost. They grow out of the operations of business as much as government.

In response to public objections, businesses and/or governments may tone down or eliminate specific conflicts of interest. This generates goodwill with voters and consumers. It leaves investors unwary when the next little profit-draining conflict crawls out of the ecology of finance.

Nobody makes a career out of chasing down low-grade conflicts of interest. It’s one of the financial trivialities that the efficient-market theory ignores. This theory says that it’s impossible to beat the market, because the market is efficient and eventually reflects all information, good or bad. This idea had a lot to do with the creation of index funds.

But it’s a mistake to put too much faith in the theory. In addition to ignoring conflicts of interest, it disregards the random element in market movements. However, if you keep the theory in mind when making investment decisions, it will help you spend your time more productively. You’ll waste less time dwelling on market fads, your personal impulses, or guesswork dressed up as logical or scientific predictions.

Our Successful Investor approach has a proven record of good investment ideas

When you try to pick a handful of stocks that will all beat the market, you are asking a lot of yourself. No one, not even people that devote their entire lives to it, has ever been able to consistently pick stock-market winners over long periods.

On the other hand, it’s relatively easy to acquire a balanced, diversified portfolio of mainly high-quality dividend paying stocks, spread out across most if not all of the five main economic sectors: Resources & Commodities, Finance, Manufacturing & Industry, Utilities and Consumer.

If you diversify, you improve your chances of making money over long periods, no matter what happens in the market.

Here’s more on our TSI philosophy:

First, invest mainly in well-established companies. When the market goes into a lengthy downturn, these stocks generally keep paying their dividends, and they are among the first to recover when conditions improve.

Second, avoid or downplay stocks in the broker/media limelight. That limelight tends to raise investor expectations to excessive levels.

Third, spread your money out across most if not all of the five main economic sectors (Manufacturing & Industry; Resources & Commodities; Consumer; Finance; and Utilities). This helps you avoid excess exposure to any one segment of the market that is headed for trouble.

How will you use this advice in your next investment that seems to have a conflict of interest?