The 5 Rules You Must Know In Order Invest

SUMMARY

  1. Investing should be simple despite what conventional wisdom says.
  2. Rules-based investing can help one to achieve their goals.
  3. 5 simple rules to apply no matter what kind of investor you are.

Introduction

Investing may seem complicated. But it really isn’t once you realize that most of what you need to know can fit on a fairly small list.

No matter what your investing goal, you can make money just by following some simple rules. Let’s dive into five simple rules that will get you on the path to investing success.

Rule #1: Saving is engine of great investment

This may sound like an extremely simple principle but in reality, we all know that it is not easy to start saving money. The concept of saving money is rarely taught in schools or even at home. When I joined Value Investing Academy back in April 2012, I had just enough saved up a meaningful amount of money to start investing. The process is of saving money was tough – it means that I would need to practise delayed gratification often so that the cash in my bank account would accumulate after a few months. But, it was all worth it.

If you know someone who has been investing for a while, that person would likely have saved up some money. It may not be easy at first, but it is a necessary step.

Rule #2:  Start early and think long-term

One important thing to know about investing is that the power of compounding returns work less and less effective the later you start. There are many people who don’t start investing for retirement until very late in life, and they end up with a far smaller nest egg than they first imagined.  It doesn’t matter how much time you have squandered away – the most important thing is that you can make the best of what you have. And that is to start right away and be prepared to hold it out for the long haul.

Rule #3:  Invest a similar amount and do so consistently

You may think you have a good sense of precisely when the markets will go up and when they’ll go down. But chances are, you’re guessing just like everyone else. “Timing the market” is not something the average investor can successfully do on a regular basis. It makes much more sense to invest a set dollar amount during regular periods, usually monthly or quarterly. This is called “dollar cost averaging,” and it works for investors because you end up buying more shares when prices are low and fewer shares when prices are high.

Where is the market headed next? Frankly, nobody knows. One thing is certain; a consistent habit of investing in great businesses is the surest way to great wealth.

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Rule #4: To build wealth, focus. To preserve it, diversify.

In this year alone, the S&P 500 has returned approximately 8% as of this writing. Considering that it is a very diverse fund with more than 500 of the largest companies in the US market, it has performed fairly well – maybe even better than most investors would have. Still, if you narrowed down your investments to just a couple of stocks – Amazon.com, Facebook and Google – your portfolio would have rose more than 20% in this year alone. Yet, these companies that are part of that index and has contributed to the majority of the gains.

In a basket of funds such as the S&P 500 Index or Straits Times Index, one would be able to observe that the total return of the fund was contributed to only a small number of companies. If one were to build wealth, he would be far better off taking time off and scouring the markets for great businesses. For the one who wants to preserve his wealth, perhaps getting a basket of diversified funds would serve him better.

Rule #5: Pay attention to fees and other hidden costs

When investing in mutual funds or exchange traded funds, take a hard look at something called an “expense ratio.” That’s the amount of money that the mutual fund company takes before you even see a dime in returns. These expenses range from well above 1% to a minuscule .05% by some brokerage houses. One percent may not seem like much, but it can definitely cut into your returns and cost you thousands of dollars over long periods of time. Mutual funds that are actively managed, rather than those that simply track an index, generally have higher expense ratios.

One also needs to keep in mind that there will be fees every time you buy and sell. If you’re an active trader, the commissions can add up to a lot and diminish your returns as well.

Conclusion

Investing can be deeply stimulating or thoroughly boring. No matter which camp you belong to, these rules will keep you in check.

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Marcus Ho
Research Analyst, Mind Kinesis Value Investing Academy

Disclaimer: Please note that all information stated in this article is just for education purpose only and should not be used as any form of recommendation or advice.

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