Investment Building Blocks from my Columbia MBA
I first ran into the idea of “first principles” in high school. They caught my ear when my geometry teacher said, “First principles are basic building blocks. Learn them. Then if you have to, you can reconstruct any theorem." Really? I’m in, I thought.
I ran into first principles again as a 1st-year MBA student at Columbia University. In one of his early classes, my finance professor introduced the first principles of investing. By coupling each with a popular saying, he helped me keep these principles close over decades of professional experience.
- The first idea is risk and return, or, “there’s no free lunch.” This means that to make more money, you have to take more risk. For example, stocks can potentially earn more than a savings account, but they are also riskier.
- The second idea is diversification, or, “don’t put your eggs in one basket.” Spread them out to reduce risk. For example, instead of investing all your money in one company’s stock, invest in a mix of stocks, bonds, and other assets.
- The third idea is the time value of money, or, “a dollar today is worth more than a dollar tomorrow.” For example, if you invest $100 today and earn 5% interest per year, in one year you will have $105. If you wait a year to invest, you will miss out on that $5 of interest.
No principle, first or not, can guarantee a profit or protect against loss. Still, these three are valuable building blocks.