Everyone needs a budget. Personal finance affects every aspect of your life. Everyone should be investing. Many people believe that they will not have enough money to retire. You need to spend money in accordance with your values. It is important to save for a rainy day. A budget can be altered over time. This book doesn’t delve into complicated material or technical terms. Warren Buffett believes in value investing and not active investing.
Why Should You Invest? Do not invest if you want to make a quick buck or your aunt recommends you a stock. You must understand what you are investing in. You must set a clear goal. The main reason is to build wealth. The average wealthy person invests at least 20% of their income. The trick is to give every dollar a job to do. By investing, you are making the money work for you. This is what is meant by ‘leveraging’ your money. Wealth is a boring motivator. However, one can do a lot with more money. For one, one could retire early. You can use the money for your child’s education. Weddings are getting more and more costly. You might also aim to buy a car in future. Your investment goals must be SMART in nature. For instance, a goal could be ‘I will invest $xx each month into my investment account so that I can purchase a new car costing $yy in 5 years time’. To go the distance, you will need goals.
Investment Growth. One invests so that their wealth can grow. Understand the concept of compound growth. Investments boil down to 3 components: a) amount; b) length of time; (c) rate of return. Remember that in investing, time is your best friend. You can use the Rule of 72 to find out how long it takes before your money doubles. Factors like taxes, inflation, transaction fee can affect your rate of return. Taxes can be huge and should be minimized. Brokers will charge you a transaction fee for buying/selling. Hence, it makes sense to buy/sell large quantities .Mutual fund expense ratios can be quite high. Be wary of fees that are pegged to AUM. 401k fees also erode your net returns.
How to Win the Investment Game. There are plenty of books on investing. The key is to start now and set your investments on auto-pilot. The key is to be boring, there is no need to talk a lot about your investments. Understand about risk/reward. The mix of your assets is your asset allocation. Different instruments have different risks associated with them. Depending on what are your goals and at what stage of life you are in, invest appropriately. Diversify your portfolio. Apply dollar-cost averaging on your portfolio so as to in general, ‘buy low sell high’. Timing the market is stupid and unreliable. If you wait too long for the perfect time to enter the market, chances are you will miss out on a lot of potential income.
Become a Control Freak. You can control the following: When you will invest, How you will invest. Focus on your investment goals, before looking at your expenses. Always focus on only what you can truly control. Markets are irrational and it doesn’t make sense trying to analyse market performance. Be lazy and set everything to autopilot.
Since you cannot successfully time the market or select individual stocks, asset allocation should be the major focus of your investment strategy, because it is the only factor affecting your investment risk and return that you can control. – William Bernstein
Investment Types. Stocks are traded on exchanges and it is like owning a small stake in the company. When they are riskier, they provide greater returns. A mutual fund consists of different stocks. One share might represent different stocks, but the fund also has its own expenses. An index fund is a passively managed one. Mutual funds are run by investment professionals. The author believes in the power of index funds. Even Warren Buffett recommends index funds for most people. The fees are also the lowest. ETFs are tough to beat and have very minimal expense ratios. Stocks are valued via discounted cash flow or the dividend growth model.
All About Bonds. Bondholders are paid before stockholders in a liquidation. There is an expiry date on the bond and the principal will be returned to you at the end of the tenure. Bondholders receive interest first and companies are obligated to pay bondholders their coupon interest. However, you must be concerned with default risk, interest rate risk, inflation risk. Federal bonds are safer than municipal bonds. Corporate bonds have credit ratings. If people anticipate interest rates to go up, then bond values will go down and vice versa. They are useful to add if you are more conservative in your investing style. There are also bond ETFs available.