Financial constants

IN the book "Same as Ever," the author Morgan Housel tells a story of a guy close to Warren Buffett. The guy was driving around Omaha, Nebraska, with Buffett in late 2009 when the financial subprime crisis just happened.

Many stores and shops were closed. The guy asked Warren, "It's so bad right now. How does the economy ever bounce back from this?" Warren asked him if he knew what the best-selling candy bar in 1962 was. The guy said No. Warren replied: "Snickers." Warren asked him again about the best-selling candy bar today. The guy still didn't know. Warren again replied: "Snickers." End of conversation.

Finance has undergone many transformations over the past millennium, from the existence of modern banking systems to the digitization of investments. Despite these, some core financial principles remained largely unchanged. Here are some of them:

Human nature. Humans are emotional beings. We tend to experience different emotions from hope, greed to fear freely expressing it in the markets and leading to irrational decisions. We tend to follow the crowd. This worked in the hunting society when survival was our top priority. Behavioral finance has identified and analyzed them, but they have been mostly unchanged over time.

Principle and power of compounding

The concept of compounding — earning returns on previous returns — has been around for centuries. The idea was well-known to early bankers and traders. Traders and moneylenders understood that reinvesting profits could generate further returns.

In the 17th century, John Napier wrote about the concept of compounding, and it's been a fundamental part of finance ever since. Today, investors use the concept to grow wealth, whether through interest in savings accounts or bonds, or reinvested dividends in the stock market. The principle remains unchanged. Given consistent returns and enough time, small gains can accumulate into significant wealth. The power of compounding also means not losing your principal and reinvesting for a long time. Zero multiplied by zero is zero.

Importance of time

Warren Buffett had said you can't have a baby in a month by getting nine women pregnant. Trees do not grow faster if you look at them more often. The best things in life take time. Patience is important. Either waiting for the right price or holding on for an investment to bear fruit.

Law of supply and demand. The fundamental law of supply and demand is one of the oldest economic principles. If demand for a product or asset rises and supply doesn't keep up, prices increase, and vice versa.

Existence of market cycles

Financial markets have always been cyclical, going through periods of boom and bust. This cyclical nature of finance is deeply rooted in human psychology, which tends to swing between extremes of optimism and pessimism. Be a master of cycles rather than its slave.

Importance of trust

Trust has always been at the core of financial systems, whether it was in medieval trade agreements or modern-day digital transactions. Financial deals — whether they involve loans, investments or trade — rely on trust between the parties involved. As an example, to gain access to credit, we must be creditworthy. Paying bills and credit cards on time and not defaulting on loans should be one of our top priorities.

Importance of diversification

Diversification has long been used to reduce risk in investments. In olden times, merchants didn't put all their goods in one ship because a single disaster could wipe them out. Similarly, medieval bankers diversified their assets by lending them to different industries or countries to minimize risk. In the modern age, portfolio diversification is utilized by spreading investments across different asset classes or securities.

Probabilities rather than certainties. Our nature seeks an anchor and certainty. That's why we listen to forecasts even though we know they are more likely to be less accurate. When making financial decisions, we should view everything with certain probability attached and with different likely outcomes.

The risk-reward tradeoff. The relationship between risk and reward has always been a cornerstone of finance. The basic principle remains the same: to make more money, you generally have to take on more risks.

Wealth creation comes from investing and entrepreneurship

Wealth is created through investment or entrepreneurship. The key to creating wealth has often relied on the ability to take a calculated risk and manage resources wisely. The basic principles of entrepreneurship of seizing opportunities, managing limited resources and taking calculated risks — have remained unchanged for centuries.

While debt can create faster growth, too much of it can make it unmanageable and lead to insolvency and financial crises. This dual nature of debt has remained consistent throughout history.

Many of the core principles that govern finance remain the same. As financial markets continue to evolve, these fundamental elements will likely remain unchanged.

Josefino Gomez is a registered financial planner of RFP Philippines. To learn about investment planning, attend the 111th RFP Program this May 2025. To inquire, please email info@rfph.