Investment
Basics

How to Invest Wisely

Educate yourself from teachers, not salesmen. Learn how to be a great investor by reading these three books: The Little Book of Common Sense Investing, by John Bogle; The Investor's Manifesto, by William Bernstein; and A Random Walk Down Wall Street, by Burton Malkiel.

  • Buy no-load index mutual funds. Research tells us you will come out way ahead. Feed your account(s) monthly through an automatic contribution. Identify the wise investments. Start with VTSAX, VTIAX, VBTLX. Then look at VFSAX, VSIAX, and VGSLX. Type those symbols into the search engine at vanguard.com to learn more about these funds. Owning similar funds at Fidelity and Schwab can work as well.
  • It must have a low expense ratio (fees are directly tied to return so cut those fees and increase returns). All fees (expense ratio) should be under .20%. Strive to get your entire portfolio expense ratio to a collective fee of about .07% or so. The Vanguard Total Stock Market Index Fund (VTSAX) comes in at .04%. That is the fund that should serve as a core fund within your portfolio. Higher returns will follow!
  • You must understand what you are doing prior to taking risks with your money. Know why you have selected the funds that you own. Here is a simple rule that should guide you. Can you explain what you own and why you own them to a friend? Can you explain what an expense ratio is and what you are paying? If yes, continue. If no, go back and further your education on the matter.
  • It must fit your goals, time horizon, and risk tolerance. Identify these three bits of criteria before investing your hard earned money. It always pays to understand the tax consequences of your decisions and whether you need income (retirement) from your investments. This is about better understanding YOU as you start down the path of becoming the wise and efficient investor.
  • Diversify your investments. A total stock market index fund and a total bond market index fund will do just fine at the beginning. Over time, you could add an international index fund, a small international index fund, a REIT index fund (commercial real estate), and a small-cap value index fund (decades of research demonstrates this to be a wise choice).
  • Every year or so, rebalance your investments to get back to your desired asset allocation. Do this in retirement accounts to avoid a taxable event. You can also add more money to specific accounts as another way to rebalance your portfolio. You can also wait until your allocations are out of whack by more than 10% before rebalancing (my approach). The less you tinker the better!
  • If you like, you could invest in a total retirement fund or a lifecycle fund that does everything for you, including rebalancing over time. Simply select the fund based on the year that you expect to start taking money out of the account. With this approach, you can usually stick to one fund rather than an assortment of many. Focus on keeping your fees below .2% at all times.
  • What you should not do? Avoid the self-proclaimed “experts” who take more than they give (the majority of financial advisors and life insurance agents). This includes Waddell and Reed, Prudential, Edward Jones, Principal, Prudential, Northwestern Mutual, Merrill Lynch, Dean Witter, etc. You do not need them, and you certainly cannot afford them.

What the Experts Say

“Invest in low-turnover, passively managed index funds, and stay away from profit-driven investment management organizations. The mutual fund industry is a colossal failure resulting from its systematic exploitation of individual investors as funds extract enormous sums from investors in exchange for providing a shocking disserve. Excessive management fees take their toll, and manager profits dominate fiduciary responsibility.”

– David Swensen, Chief Investment Officer of Yale University

“Investors, both individual and institutional, and particularly 401K plans, would be far better served by investing in passive or passively managed funds than in trying to pick more expensive active managers who purport to be able to beat the markets.” – Professor Edward S. O’Neal, Ph.D., after completing a study in which he found only 2% of actively managed funds beat the market over a 10-year period

“Santa Claus and the Easter Bunny should take a few pointers from the mutual-fund industry and its fund managers. All three are trying to pull off elaborate hoaxes. But while Santa and the bunny suffer the derision of eight-year-olds everywhere, actively managed stock funds still have an ardent following among otherwise clear-thinking adults. The continued loyalty amazes me. Reams of statistics prove that most of the fund industry’s stock pickers fail to beat the market. Over the 10 years through 2001, U.S. stock funds returned 12.4% a year, vs. 12.9% for the Standard & Poor’s 500 stock index.”

– Jonathon Clements, “Only Fools Fall in …Managed Funds?” Wall Street Journal, September 15, 2002

“There are two kinds of investors, be they large or small: Those who don’t know where the market is headed, and those who don’t know that they don’t know. Then again, there is a third type of investor, the investment professional, who indeed knows that he or she doesn’t know, but whose livelihood depends upon appearing to know.”

– William Bernstein, The Intelligent Asset Allocator

“Index funds have regularly produced rates of return exceeding those of active managers by close to 2 percentage points. Active management as a whole cannot achieve gross returns exceeding the market as a whole and therefore they must, on average, underperform the indexes by the amount of these expenses and transaction costs disadvantages.”

– Burton G. Malkiel, A Random Walk Down Wall Street

“The investment business is a giant scam. Most people think they can find managers who can outperform, but most people are wrong. I will say that 85 to 90 percent of managers fail to match their benchmarks. Because managers have fees and incur transaction costs, you know that in the aggregate they are deleting value. You want to keep your fees low. That means avoiding the most hyped but expensive funds, in favor of low-cost index funds. Investors should simply have index funds to keep their fees low and their taxes down. No doubt about it.”

– Jack R. Meyer, former President of Harvard Management Company, who tripled the Harvard endowment fund from $8 billion to $27 billion.

“Most investors, both institutional and individual, will find the best way to own common stocks is through an index fund that charges minimal fees. Those following this path are sure to beat the net results (after fees and expenses) delivered by the great majority of investment professionals.”

– Warren Buffett, Berkshire Hathaway Chairman, 1996 Shareholder Letter

“Even as Wall Street belittles your investment abilities, it also wants you to believe you can beat the stock-market averages. This, of course, is contradictory. But it is also entirely self-serving. The more you trade and the more you invest with active money managers, the more money the Street makes. Increasingly, some of the market’s savviest investors have turned their back on this claptrap. They have given up on active managers who pursue market-beating returns and instead have bought market-tracking index funds. But Wall Street doesn’t want you to buy index funds, because they aren’t a particularly profitable product for the Street. Instead, Wall Street wants you to keep shooting for market-beating returns. That is why you should be suspicious when you hear talk of the supposed “stock picker’s market.”

– Jonathan Clements, You’ve Lost It, Now What?

“If there are 10,000 people looking at the stocks and trying to pick winners, one in 10,000 is going to score, by chance alone, a great coup, and that’s all that’s going on. It’s a game, it’s a chance operation, and people think they are doing something purposeful… but they’re really not.”

– Merton Miller, Nobel Laureate in Economics

“Put your long-term faith in open-end index mutual funds. Make regular investments and leave the money alone. Don’t switch in and out in hope of outguessing the market because you usually won’t. Index funds are no-brainers and, for busy people, that’s what investing should be. Eventually, this strategy can make you rich.”

– Jane Bryant Quinn,Making the Most of Your Money

“If I have noticed anything over these 60 years on Wall Street, it is that people do not succeed in forecasting what’s going to happen to the stock market.”

– Benjamin Graham (mentor of Warren Buffett), coauthor of Security Analysis

“Surprisingly, one-third of all index funds carry either front-end or asset-based sales charges. Why an investor would opt to pay a commission on an index fund when a substantially identical fund is available without a commission remains a mystery.”

– John C. Bogle, Common Sense on Mutual Funds

“The single greatest threat to your financial well being is the hyperactive broker or advisor. The second greatest threat to your financial well-being is the false belief that you can trade on your own, online or otherwise, and attempt to beat the markets by engaging in stock picking or market timing. Finally, the third greatest threat to your financial well being is paying attention to much of the financial media, which is often engaged in nothing more than “financial pornography”. This conduct generates ad revenues for them and losses for investors who rely on the misinformation that is their daily grist.”

– Daniel R. Solin, The Smartest Investment Book You’ll Ever Read

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Stuff the lawyer wants me to say: Investing outside a bank or a credit union is not FDIC insured. You may lose the value in the investments you select. All information provided here is for informational purposes only. It is not an offer to buy or sell any of the securities, insurance products, or other products named. Translated: I am not selling anything! Educate yourself, research the information that you learned and finally make the right decisions that will benefit you and your family going forward.

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