This article published with permission from InvestmentU.com.
When I speak at financial seminars and conferences around the country, I feel a tension — a palpable fear — that didn’t exist in the past.
Investors aren’t just nervous or uncertain. They’re scared. And who can blame them? The economy is sputtering. The greenback is in the tank. The Eurozone threatens to come apart at the seams. And the stock market is gyrating wildly.
In response to all this, some stock market pundits are pounding the table, insisting that this is an historic buying opportunity. Others, however, are infected with anxiety themselves. And a few are actively fear mongering.
Who should you believe: the raging bulls or the rampaging bears?
The answer is neither. As historian David McCullough often reminds his audiences, there’s no such thing as the foreseeable future. None of these gurus has a crystal ball.
And that’s okay. Investment success is not about following the right predictions. It’s about following the right principles.
Fortunately, the principles of successful investing are well understood. Why don’t most people follow them? One reason is ignorance.
There’s no shame in this. It’s a big, complicated world out there and we’re all ignorant of different things.
However, it’s unfortunate that most kids graduate from high school without a modicum of financial literacy. It’s tough to get a quick start in this world if you don’t understand compound interest, 401(k)s, adjustable-rate mortgages or why we have a stock market.
So what are the great principles of investing? It’s tough to cover them all in a short column like this. (Although I cover the bases in my first book, The Gone Fishin’ Portfolio.)
But here are the nuts and bolts everyone should know:
For starters, few people get rich by founding a computer company in their garage, recording a platinum record, or playing third base for the Yankees. Most people with a net worth of a million dollars or more do it the old fashioned way. They maximize their income, minimize their outgo and religiously save and invest the difference.
As my friend Rick Rule likes to say, when your outgo exceeds your income, your upkeep becomes your downfall.
Ok, let’s assume you’ve done what many people are either unable or too undisciplined to do: You’ve saved some money. Now what?
The next step is to understand that there are six factors that will determine what your investment portfolio is worth in the future:
• The amount of money you save.
Note that there’s nothing here about forecasting the economy, timing the stock market or figuring out how the European debt crisis will end.
• The length of time you let it compound. (Hands off.)
• Your asset allocation. (This refers to how you diversify your portfolio among uncorrelated investments like stocks, bonds, cash and precious metals.)
• Your security selection. (i.e. the individual investments you own.)
• The amount you pay in commissions, fees and other expenses.
• The amount you fork over in taxes.
You cannot know the answer to those questions. And that’s okay, too, because they will have little bearing on what your investment portfolio is worth five, 10 or 15 years from now.
If you’re investing to reach long-term financial goals, think long-term and forget about the day-to-day trivia that dominates the headlines and pays the salaries of so-called experts.
Focus instead on following proven investment principles. In other words:
• Save as much as you can.
I’ll be talking in more detail about each of these investment principles in the weeks ahead.
• Start as soon as you can.
• Leave it alone as long as you can.
• Follow a sensible asset allocation.
• Diversify among high-quality securities.
• Minimize your investment costs.
• Tax-manage your portfolio.
In the meantime, heed the advice of Thomas Jefferson: “In matters of style, swim with current; in matters of principle, stand like a rock.”
Alexander Green is the chief investment strategist at InvestmentU.com. See more articles by Alexander here.