A Short Course in Investing

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You can commit a large chunk of your life to becoming a better investor, if you want. You can read articles, devour books, and enroll in classes. Some people, myself included, will take that full plunge. But in the end, most experienced investors arrive back where they started, with just a few simple principles in hand. Here they are, eloquently put, by some of my favorite financial voices….

“The stock market should not be viewed as a way of making money. Working is how money is made—saving and investing is how it’s kept.”E.J. Smith

Despite the occasional success story, getting “rich” in the stock market is a losing strategy on average. Despite the cachet that investing itself sometimes holds, it’s your career that produces the wealth you invest. This has proven true in my life, and the lives of countless others I know. Your choice of profession, your education, and your skills perfected on the job are what let you create value in the world. You can then save that value in the stock market, and perhaps grow it over time. But, until many years pass, any growth you achieve is overshadowed by your ongoing savings rate. So it is your professional skills, not your stock market prowess, that will have the biggest impact on your financial success. Invest your time accordingly.

“…experts can’t beat the market because they are the market, before fees.”Rick Ferri

The stock market is us. All of us. Such a simple concept, so widely overlooked. The neophyte investor believes there is some strategy or some advisor that will help him “beat the market.” But the market is simply the aggregate behavior of all the people investing in the market — many of them far more experienced than you. Other than long-term economic growth, it’s a zero-sum game. To outperform the broad market index, you’ve got to beat somebody else at the same game, and do it by a wider margin than any expenses you incur. Do you really want to get into the ring with the professionals, with your life savings on the line? Better to make the safe, sure choice….

“The goal of the nonprofessional should not be to pick winners — neither he nor his “helpers” can do that — but should rather be to own a cross section of businesses that in aggregate are bound to do well.”Warren Buffett

Rather than trying to guess at a few stocks that will outperform others, and do it inexpensively enough that fees don’t eat up whatever profits you’ve achieved, you’re far better off owning a cheaply-managed basket of numerous stocks. This assures you’ll capture your fair share of the world’s economic growth, without giving much of it up to expenses. Warren Buffett is one of the richest men in the world and one of the very few who has outperformed the market over very long periods. He’s done it through patient, value-oriented investing — buying businesses for the long term, not “stock picking.” And, rather than trying to sell us on using his “system,” Buffett suggests most of us choose a simpler one. We should take his advice.

“…it doesn’t matter much what tried-and-tested asset allocation approach you pick, provided it’s cheap, sensible, and somewhat diversified.”The Investor, Monevator

To cope with market volatility you need to invest in more than just stocks. That means asset allocation. Most experts suggest that you add at least bonds, the classic diversifier to stocks. Bonds typically hold most of their value when the stock market is tanking. That gives you courage and cash flow when needed. Sounds good. But how much should you hold in bonds? The standard answer is that it depends on your “risk tolerance.” But it’s questionable how well that vague concept can be measured, especially before you’ve had the experience of watching your assets tumble in a real-life market downturn. So it may be reassuring to know that some experienced investors think the details of asset allocation aren’t all that important. Just keep expenses low, use common sense, and don’t put all your eggs in one basket.

“I should have computed the historical co-variances of the asset classes and drawn an efficient frontier. But, I visualized my grief if the stock market went way up and I wasn’t in it — or if it went way down and I was completely in it. So I split my contributions 50/50 between stocks and bonds.”Harry Markowitz

When a Nobel Prize-winning economist who is fully capable of running a detailed numerical simulation instead simply splits the difference, you can be assured that sophisticated analysis is optional. I too have used something close to a simple 50/50 stock/bond asset allocation for most of my investing career. It’s served me well. It has captured enough of the return on stocks to see my portfolio grow at more than 6% annually over the last 10 years. And it has been stable enough that I’ve never been tempted to sell damaged assets in a downturn. I’ve achieved enough growth to reach and maintain financial independence, while also knowing we have many years of safe, conservative investments available to outlast a bad market, if needed.

“In the real world, the excess return from rebalancing among two asset classes may not exist at all in the long term. Whatever benefit there is from the exercise likely gets eaten up by fees, commissions, trading costs, cash drag and poor portfolio maintenance.”Rick Ferri

But what about rebalancing? Don’t you need to “adjust” your holdings periodically based on how they’ve been performing? And, if the math seems complicated, shouldn’t you seek professional help? Probably not. Rebalancing is oversold in my opinion. Most studies show you’ll only gain a fraction of a percent in performance from rebalancing. And that’s if you execute the procedure diligently and precisely over many, many years. Unless your asset allocation gets hugely out of whack from your risk tolerance — say more than 10% for more than a year — rebalancing is optional, in my opinion. Whatever you do, don’t pay exorbitant fees to have it done for you! An easy way to accomplish the same thing on your own is simply to hold balanced funds.

“It’s very easy to let our investments become complicated and spread out. That’s when confusion sets in. So our goal should always be to simplify. Remember, the advocates of complexity are generally people who are making their living from the complexity they create for us.”Scott Burns

In financial life, you should run from complexity, and run toward simplicity. Diversifying your underlying stock investments via index funds is helpful. Scattering your money into many accounts and financial products is not. I have less than ten investments, consolidated primarily at two institutions. In my experience, the complex financial instruments are the expensive ones. Keep your money simple and understandable. Don’t fall for “sophisticated” financial strategies hawked by clever salespeople. At best, these are unnecessary. At worst, they are harmful. You can hold your entire retirement savings in a single balanced mutual fund. Mike Piper at Oblivious Investor, a CPA and one of the most astute financial minds around, does exactly that.

“Only when you reach the point of ambiguity are you fully informed and capable of balancing risks with rewards to make consistently profitable investment decisions.”Todd Tresidder

Above all, remember this painful truth that every successful investor knows at heart, but most professional advisors are loathe to admit: There is no single “best” investment for your money. You won’t find an optimal choice. Instead, you’ll find many lousy options, and some that are “good enough.”

No matter what choice you make, somebody somewhere will have done better. And somebody in the media will have written about them, after the fact. Ignore all that!

What matters most is avoiding the big mistakes — risky, expensive investments. You only need to meet your personal investment objectives. What counts in the end is achieving financial independence for your lifestyle, with your given resources. So, do your homework and make a good-enough decision. Then patiently leave your money alone and get on with life. That’s the essence of successful investing.

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This blog is enjoying its fourth anniversary. I’ve covered many key financial topics over the years, including many in the early years before readership grew. There are now more than 150 articles here. And most of them are still highly relevant. What’s the easiest way to find a topic on this blog? Use the subject index, which is always available by clicking INDEX in the menu bar. There you’ll find every article I’ve ever written, organized by category. From annuities to health care, from insurance to taxes, it’s all there.

If you’re a regular reader, you know this blog is a labor of love. It’s my way of giving back to the world. Most of the articles here take days of work to complete — research, writing, editing, layout, proofing, and publishing. Given that investment on my end, I have a quick favor to ask: If the blog has helped you, could you share it with another person? Somebody else in your life who is nearing retirement, or would benefit from learning more about saving and investing. Can I Retire Yet? is close to 10,000 subscribers, and it would mean a lot to reach that major milestone soon with your help. Thanks!

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