One of the best-kept secrets on Wall Street is one your broker hopes you never uncover— figuring out how to invest like a pro is really easy. In fact, any investor can build a well-diversified portfolio of stocks and bonds with little effort. It doesn’t require great expense, extensive knowledge of the market, or even a lot of time.
1. Keep it simple.
Investing does not have to be complicated. While some investors choose to buy individual stocks and bonds, for most of us, a couple of low-cost index funds will suffice. Even Warren Buffett recommends index funds as reflected in his 1996 letter to Berkshire Hathaway shareholders:
Most investors, both institutional and individual, will find that 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 expense) delivered by the great majority of investment professionals. Seriously, costs matter.
Taken to its extreme, an investor can build a diversified investment portfolio from a single target-date mutual fund.
2. Go cheap.
As Warren Buffett noted in his letter quoted above, “costs matter.” Unfortunately, it’s easy to ignore costs when it comes to investing. Mutual funds do not send out a monthly bill for investors to pay. Instead, funds simply subtract the fees from the assets it holds. Yet even relatively small annual expenses, multiplied over a lifetime of investing, can make a serious dent in your nest egg.
Expenses that lower investment returns even one-half of a percent, for example, can result in substantially less money at retirement. The key is to invest in low cost mutual funds. Many index funds today cost less than 10 basis points (0.10 percent).
3. Invest with a plan.
A sound investment plan is simple to create. With the help of index funds, an investor can devise a simple asset allocation plan between stocks and bonds. Many suggest an investor should own her age in bonds, with the rest in stocks. For example, a 25-year-old would allocate 25 percent of her investments to bonds and 75 percent to stocks. Others suggest a more aggressive approach of owning a percentage of stocks equal to 120 minus your age. Regardless, choose a plan and stick with it.
Following an investment plan helps investors stay the course during difficult times. An investor in his 20s will undoubtedly experience significant bear markets over the next 50 years.Stocks will likely experience one-year losses of 20 to 30 percent several times over the next half-century. A sound investment plan will help an investor weather these storms.
4. Have no fear (or greed).
Fear and greed are two emotions that do not mix well with sound investing. When the stock market is moving up, many investors jump on the bandwagon in hopes of making a quick buck. When stocks eventually fall, those same investors run for the exit. The result is a repeating pattern of buying high and selling low.
Ideally, investors should do just the opposite. A bear market is an ideal time to buy stocks. A quick look back to 2008 and 2009 reveals many stocks that could have been purchased from the bargain racks. At a minimum, however, investors should avoid buying and selling based on the daily, monthly, or yearly fluctuations of the market. Following an investment plan as described above will help.
5. Track your results.
Tracking results is critical. As the price of investments fluctuates, investors will need to rebalance their investments periodically to keep them inline with their investment plan. As an investor nears his investment goal, such as retirement, changes may need to be made to the asset allocation plan. And the cost of investments should always be monitored.
Fortunately, there are many online tools that enable investors to track a portfolio for free. The one I use daily is called Personal Capital. It automatically imports investments from 401(k), IRA and other retirement accounts, as well as non-retirement accounts. It displays the asset allocation of a portfolio along with the total cost of the investments. Regardless of the tool used, however, the key is to monitor an investment portfolio regularly.
With these five tips, anybody can invest like a pro.
Rob Berger is the founder of the popular personal finance blog, the Dough Roller.
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