How to know whether an investor has succeeded??

It is known to many that one looks at investment success in terms of rate of return on investment. If an investor can receive consistent annual high rates of returns on his original capital, he is deemed to be successful. The higher the annual rate of returns and the more consistent he can keep receiving the high rate of returns on investment, the more successful he is.

This brings us to the question of whether this long held belief is a good measure of investment success or not. I believe there is no harm in challenging every beliefs in life, and that includes investment beliefs as well. By challenging beliefs, one is not trying to be difficult and go against the beliefs but rather to seek the truth, to see whether the belief in question is really the ideal truth or not.

Is annual rate of returns on investment a good measure of investment success? Let's look at two separate fictitious people, Alan and Jane who did their investments differently. Alan is an investor who goes for high annual rate of return on his investments. He recognises the need to invest long term in good dividend stocks that provide a high yield. He also recognises the need to go for high capital gain every year, so he carefully selects some stocks that he thinks have good potential to grow their share price in any year. Alan has been doing well so far, getting reasonably good average annual rate of return (around 18%) on his original capital though his rate of return may change every year.

The only thing about Alan is that he reinvested little of his earnings from investments, so his investment capital value has not grown much throughout the years even though he continues to receive dividends and capital gains yearly which he spends away most of these earnings. When Alan talked to his friends about his investments, he always smiled with pride that he managed to get consistently good average annual rate of returns.

Jane another investor shares the same investment thoughts as Alan carefully selecting good dividend stocks with high yield to invest for the long term. She also looks out to invest in good growth companies that show potential to increase their share price be it on short term or longer term. In doing so, she is also hoping for good capital gain on her investments apart from receiving cashflows from dividend stocks. She is not as good as Alan in getting a high annual rate of returns on her investments. She managed to receive on average around 11% annual rate of return  on her investments. She diligently reinvest her earnings from investments throughout the years during opportunate times when valuations of companies are cheap.

Alan started with $100,000. After 20 years, his portfolio investment value has grown to $300,000. Jane started also with $100,000. After the same 20 years, her portfolio investment value has grown to $800,000. So, at the earlier part of both their investing journeys, Alan seems to be the better investor getting a higher average annual rate of return on his investments than Jane. However, he only reinvested little amount of his earnings from investments and mostly spends the rest of his earnings. He was thinking to himself all along that he was successful at getting a high average annual rate of returns on his investments.

Jane recognised the value of compound interest growth, so she delays her immediate gratification on spending her earnings from investments and instead plough back her earnings from investments to work on the principle of compound interest growth. Her efforts are finally realised only after a sufficient long period of consistent and diligent reinvesting, greatly increasing her original capital sum.

She has a higher capital value in investments than Alan after 20 years even though she made lesser average annual rate of returns on her investments throughout this period. In doing so, she managed to have a higher rate of accumulation of capital compared to Alan over the same period of time for the same start-up capital, since she has accumulated a capital sum through investing which is much higher than Alan.

I shall leave you with a final question. Is annual rate of returns on investments really a good measure of eventual investment success or maybe it is time to relook at this long held belief and consider another possible measure, the annual rate of accumulation of investment capital?