Updated on 08.28.14

#11: Building Knowledge

Trent Hamm

25 Rules to Grow Rich By

This is part of a series in which we re-evaluate Money Magazine’s “25 Rules To Grow Rich By”. One “rule” will be re-evaluated each weekday until the series concludes; you can keep tabs on the action at the 25 Rules index.

Rule #11: If you don’t understand how an investment works, don’t buy it.

The sheer hubris of the above statement is incredible. “Leave the real money makers to the experts; you go along and play with your savings account at your local bank, junior.” It’s typical of the attitude of many people in the financial sector as they try to play Prometheus, bringing the fire of financial knowledge from the gods of Wall Street.

The fact is that most investments are not all that complicated. If you are interested in a particular investment, pick up a book at your local library (or your local bookstore) and read about it. This is an opportunity to learn something that could be directly useful to your pocketbook, not an excuse to run for the hills like a coward.

I agree that you should never buy an investment that you don’t understand, but merely saying, “I don’t understand it, so I’m not going to buy it” is a losing philosophy. You’re much better off saying, “I don’t understand it, so I’m going to learn about it.”

Let’s rewrite that rule:

Rewritten Rule #11: If you don’t understand how an investment works, do some research before you invest; don’t just write it off.

You can jump ahead to rule #12 or jump back to rule #10.

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  1. Matt says:

    But that requires work… people don’t want to work for their money. I completely agree with your take on the rule unfortunately we live in a society that is incredibly cushy and extra effort is seen as too much effort.

    Its a shame that more financial literacy isn’t taught in schools. I know I would have benefited greatly from such knowledge when I was younger.

  2. Jeff says:

    Matt and Trent — I actually disagree with your take on this rule.

    First, let me say that I am very indepedent and I make all my own investment decisions. I feel I’ve educated myself reasonably well about money and investing, and I’m certainly not scared of researching new opportunities.

    But I would never, ever, buy an investment that I didn’t understand. If, after doing some research, I find that I’m “not smart enough” for a particular investment, I won’t do it. The bottom line is that most things that are too complicated are that way for a reason — someone is trying to confuse you. Investing is not rocket science, and don’t believe anybody who tells you otherwise.

    I didn’t really pick up on any hubris in this rule. Hubris would be a rule saying trust your financial advisor at all times. And trying to be a genius by buying a derivative you didn’t understand would also be hubris. But not buying an investment you don’t understand is just common sense.

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