From Jonathan Clements at the WSJ
[i]And It All Comes Down to This…
April 6, 2008
This is a moment for lush prose and lofty thoughts. But instead, you’ll have to settle for another of my lists.
In eight days, I start work as director of financial education for a new Wall Street advisory service geared toward ordinary investors. That means this is my last column for The Wall Street Journal Sunday – and, I’ve got to tell you, I’m feeling the pressure.
What should I say in these remaining 800 words? How can I keep you on track in the years ahead? Here, culled from my two decades as a personal-finance writer, are eight simple suggestions.
1 Embrace humility. Yes, there will always be investment icons like Warren Buffett, who are celebrated for their market-beating prowess. But what’s really striking is how few Warren Buffetts there are.
Over a lifetime of investing, extraordinarily few investors outperform the market averages and, indeed, most lag far behind.
Contemplating a big investment bet? Never forget that when you’re buying, somebody’s selling – and he or she may be a professional money manager with a business degree, a high-powered computer and access to the latest market research.
2 Control what you can. If you shouldn’t waste time trying to outguess your fellow investors, what should you do? Focus on the things you truly can control.
Minimize your investment tax bill, by maxing out on retirement accounts and buying tax-efficient funds in your taxable account. Limit your risk, by building yourself a globally diversified portfolio of stocks and bonds. Hold down investment costs and guarantee you capture the markets’ performance, by purchasing low-expense index funds.
3 Save yourself. Maybe most important, control your spending. During my 13½ years as the Journal’s personal-finance columnist, I have corresponded with thousands of ordinary folks who have amassed seven-figure portfolios. Some were savvy investors. But almost all were diligent savers.
To be sure, socking away money can be a frustrating business. At first, your portfolio’s growth will seem agonizingly slow. But if you save 12% or 15% of your income every year for maybe 15 years, your annual investment gains will start dwarfing your annual savings – and suddenly you will be on the fast track to financial independence.
4 Put pen to paper. Write down what percentage of your portfolio you want invested in different market sectors, such as large U.S. stocks, emerging markets, high-quality bonds and so on.
This simple exercise is enormously powerful. Your written asset allocation is both a roadmap for your portfolio and also a reminder – when markets sink and your confidence slumps – of the strategy you committed to in calmer times.
5 Keep your balance. That brings me to another simple but powerful strategy: rebalancing.
When stocks plunge, your instinct may be to cut and run. Yet you ought to be buying – and rebalancing compels you to do just that. The notion: Occasionally calculate your portfolio’s current allocation, compare that to your written percentages and then buy and sell to bring your investments back in line with your target mix.
6 Take comfort. Bucking the crowd and buying during declines is a whole lot easier if you bear in mind that stocks aren’t mere pieces of paper, but rather a claim on the vigor of U.S. and foreign economies.
Economic growth drives up corporate earnings which, in turn, propel share prices higher. True, stocks sometimes race ahead of corporate earnings and sometimes they trail behind. Eventually, however, economic fundamentals prevail – and long-term investors are rewarded.
7 Think big. Savvy money management may be about securing the right mortgage and selecting the right funds. But it’s also about seeing the big picture.
If your pension will cover most of your retirement living expenses, you probably don’t need much in bonds. If you’re carrying a credit-card balance costing 13%, it doesn’t make sense to stick your extra cash in a savings account earning 3%. If half your money is in bonds yielding 5%, you shouldn’t bank on 10% portfolio returns.
In addition, think about the link between your finances and the rest of your life. If you’re saving dutifully for a 30-year retirement, you should probably exercise, so your body lasts almost as long. If you have children, your life will likely be richer – but you will find it awfully tough to retire early.
8 Take the long view. As you might gather from all of the above, sensible money management is pretty simple. But it isn’t easy.
Our plans to save get derailed by impulse purchases. Our long-term strategy is tossed aside in panicky investment decisions. Yet, a year from now, last month’s market turmoil will be a distant memory and this weekend’s impulse purchases will be gathering dust.
My advice: Strive mightily to take the long view. We all want a secure financial future. Saving regularly, low investment costs and broad diversification will get us there. Tempted to stray? Banish such thoughts – and keep your eyes fixed firmly on the prize.[/i]