Financial Reference

I find it hard to continue to post new investment ideas every day. It’s difficult to even post two times a week with new ideas. It’s difficult because it isn’t very hard to be a reasonably good investor. Of course, you can put a lot of time and effort into investing to try to be better than average. But for most people, it is a much better idea to follow a few simple tenants.

The first five ideas come from WSJ columnist Jonathan Clements in today’s Getting Going column.

1) Saving is the most important factor in accumulating wealth. Despite the fact that we have a young son and are jealous of people with bigger homes, we still manage to save about 30% of our income so that we will have that bigger home some day. It’s not necessary to save 30% but making efforts to save as much as you can, as early as you can, will give you more safety and options later in life.

2) Time. The earlier you save, the more compounding and the less you will have to save later.

3) Diversification. Although many value investors — including myself — have derisively used the term “di-worse-ification,” the average investor would be much better off making less concentrated investments. For example, in this month’s Money magazine, a couple was profiled who had significant stakes in both of their employers and in Amazon.com. If either of their employers had a significant setback, they could be in big trouble.

4) Rebalancing. The most important part of an investment plan (i.e. a plan that defines how you are going to allocate your assets) is to make sure you follow through. If you follow the plan, emotion will play as little a role as possible and you will not get caught chasing hot sectors.

5) Indexing. In order to outperform the market you need some advantage. If you are not willing or able to do hours of research looking through annual reports (and looking at pictures and charts doesn’t count), there is no reason to believe you will have an advantage. As Warren Buffett said, if you “bring nothing to the party, [] why should [you] expect to take anything home.” For most investors, it is better to invest in index funds instead of trying to outperform the markets.

To this list I would like to add:

6) Use tax-deferred and tax-free accounts as much as possible.

7) Take free money whenever you can — maximize contributions to ESPPs and matched 401(k) contributions (if you have the option).

8) Maximize your exposure to stocks in your retirement accounts — especially if you have a long time to retirement. Over long periods of time the real return of stocks has been higher with less risk.

9) Minimize expenses. The biggest difference in long-run equity mutual fund performance is not the manager but expenses. Keep this in mind when looking at investments.

If you follow these simple rules, you can accumulate a large nest egg over your lifetime with little risk.