The Two Ways You'll Get Rich Investing

I was exchanging e-mails with my old friend Chris Weber a few days ago when it hit me... I sat there, and the idea resonated in me. It was almost a physical experience. I felt as though it was the culmination of thousands of hours of thinking. If you've ever worked for years trying to understand a puzzle or unlock a mystery... you would know how I felt.

Chris Weber, if you've never heard his name, is one of the greatest investors of this generation.

Chris began investing at age 16 with the money he'd saved from working a paper route. Chris was an unusually astute and well-read 16-year-old. He'd read Harry Browne's book about the coming dollar devaluation. He understood what the breakdown of the Bretton Woods agreement meant for the future of commodity prices – especially gold. So, when private ownership of gold was legalized in 1974, Chris started buying gold coins. Before long, he was buying gold futures.

He'd discovered the bull market in gold, and he was wise enough to hang on until the very top.

By the late 1970s, he'd made a small fortune. And what he did next would make him truly wealthy. In 1981, Chris bought long-term government bonds, which were yielding 14%-16% at the time.

Imagine your wealth compounding at double-digit rates in government bonds. If you were making that much money in bonds, you'd be very reluctant to buy anything else. You'd be a very skeptical investor, only interested in the most extraordinary opportunities. Chris made enough money with his investing that he's never had to get another job, though he's worked through the years in various related endeavors, like writing investment newsletters and managing money.

Chris is a very unusual person. More so than anyone I've ever met before, Chris is amazingly adept at seeing through complexity and getting to the essence of an idea or concept. I've seen the same trait in all of the good investors I know... but much more so in Chris. I believe his mind is able to visualize knowledge in a way that makes him a sort of genius, especially in today's world of never-ending news, data, and media.

For example, I remember in 1999, I was talking to Chris about trailing stop losses. As I recall, we were sitting in a restaurant in Orlando, Florida. Chris had picked up on the idea from Steve Sjuggerud. He asked me a few simple questions... questions that were so simple, I almost thought he was putting me on. But he was looking at the idea in his own unique way. You could see him chewing on it as he sat there in restaurant, utterly oblivious to anyone else at the table.

Maybe 18 months later, Chris came barreling into my office in Baltimore. He was on his way to go scuba diving in the Red Sea. After our conversation in Orlando, he had seen how trailing stops could vastly improve the risk-to-reward ratio of speculative investments. With this in mind, Chris had bought a few of the best highflying tech stocks – like Broadcom. And he had done extremely well with these investments. The stocks had soared, and then his trailing stops got him out near the top.

In an incredibly short amount of time, Chris recognized the core value of trailing stops and leveraged the idea to make money. And last week, Chris helped me understand the two surest ways to get rich through your investments.

"There are only two ways people become wealthy investing," he said. "You can compound your savings over a long period of time, or you can buy into the early stages of major bull markets."

I'd never thought about it so clearly before. Chris's very simple explanation is exactly right. To grow wealthy as an investor, you've got to be able to do two things well.

First, you must understand the power of compounding. You must have the patience and fortitude to allow most of your capital to compound over a long period of time. In all truth, compounding returns combined with steadfast saving is the only reliable way to become wealthy as a passive investor. This is how the banker gets rich: He understands interest is something that should always be collected, never paid.

Second, you must be cognizant of long-term trends – particularly fundamental changes in technology and certain changes in the global macroeconomic environment. Using your knowledge, you must invest early in long-lasting trends... and have the patience to stick with it.

How many of your investments fit exactly in these two categories?

I went through my own personal portfolio with these ideas in mind... and I realized I was mostly speculating in situations where a new bull market wasn't emerging. Whether I would make money or not didn't really matter... I wasn't invested in the long-term, big bull markets that would multiply my capital several fold. Likewise, I hadn't set up my safer investments so that they'd automatically compound.

In my advisory's model portfolio, on the other hand, we've been using this model, albeit inadvertently. Our "no risk" picks, such as Microsoft and Verizon, are designed to provide compounding returns. When you buy a cash-producing value stock (like these two), you expect the company's retained earnings to increase its book value at escalating rates. Most of our other recommendations are designed to capture the rising tide of a major bull market.

Before you make another investment, I encourage you to look at your existing portfolio. How many investments do you own that are designed to compound your wealth? How many investments do you own that are designed to increase your capital? I'd recommend you follow the 80/20 rule... and keep 80% of your money in investments that will safely compound your existing wealth. Put the rest to work in major bull markets.

Good investing,