Book Summary - The Little Book of Common Sense Investing by John Bogle
John C Bogle is the former C.E.O. of Vanguard Mutual Fund Group, the largest fund company. In 1976, he developed the first-ever index fund for any individual investor, which revolutionized the market place. According to Dr. Paul Samuelson of M.I.T., "The creation of the first world's fundamental indexing fund by John Bogle is equally important as the invention of the alphabet and the wheel." Today, index funds make up $1 trillion in invested funds. Index funds are well-liked among renowned investors, including Warren Buffet. In his book, Bogle encourages readers to create a "defensive portfolio," with an expanded selection of diversified stocks that you invest in for the long term.
An index fund holds a diversified portfolio that reflects the financial market or a specific market sector. If the companies increase in value, the market value of the index fund rises too.
Over the long term, U.S. corporations are sure to have strong business fundamentals. Investing in an index fund that holds the entire market for the long term is a smart move.
Investing in individual stocks is not only risky but can be costly. Such investors rarely receive the overall R.O.I. that they expect. Evaluating the attractiveness of a stock is tricky. That's why many investors invest in an actively managed fund, where a fund manager pools money from several investors and then invests this money into stocks. The fund manager is in charge of managing the stock portfolio. This is very costly because of brokerage commissions, fund manager's fees, that eats away at your profits.
Moreover, these funds, in the long run, yield less profit than the overall stock market. If you invested $10,000 in 1980, by 2005, you would have 70% less invested in an active fund than an index fund. Additionally, costs compound over time.
Investors pay a lot of money to actively managed funds for their financial expertise. They don't perform as well as the overall stock market. 24 out of 355 mutual funds that existed in the 1970s have outperformed the market and stayed in business. Just because a fund performed well for the past 40 years does not mean it will continue to do so in the next decade. The manager will retire at some point, and what then?
Investors continue to invest in actively managed funds. That's because fund managers, instead of disclosing the real costs of the funds, boast about the high returns. 198 of the 200 most successful funds in the late 1990s reported higher returns than the investors made. Also, many investors let their emotions and popular opinion shape their decisions when it comes to actively managed funds. For example, while they only invested $18 billion in the stock market during the first half of the 1990s, investors spent $420 billion in the stock market during the second half of the 1990s when the stocks were overvalued. Only when the bubble burst did people realize they had given into the hype.
Investors often invest in actively managed funds because its popular to do so.
If there are such risks with actively managed funds, then where should an investor invest?
The index fund is your best alternative. They are much less expensive than other funds. They don't bet on the market; they hold their portfolios indefinitely, which mitigates against the risk of short term, risky bets, with minimal costs. There are no operating fees for buying and selling shares, financial consultants, or fund managers because they hold shares across particular market sectors. Owning an index fund means that you are no longer buying when stocks are cheap and selling when they are not, which is OK because stock market volatility eventually levels out at the real value of the stock. Index funds usually outperform the value of actively managed funds in the long run.
The average cost of an index fund is about 0.15% per year. They are more tax-inefficient than mutual funds. Moreover, mutual fund managers are well paid, and unfortunately, their returns across the board do not match the gains of the stock market. The author cautions against investing in mutual funds.
To differentiate themselves from their competition, individual fund companies have created new types of investments. One of these types of investments is the Exchange Traded Funds, an index fund whose shares can be traded on a short term basis. These funds are costly and are designed for speculative trading. They do not act like index funds. Unless you want to buy and hold, the author cautions against them.
If you make a lot of money, invest in a "quasi index" portfolio of high grade, intermediate-term municipal bonds. You can also invest your money in an "all U.S. stock market index" portfolio and in an "all U.S. bond market index" portfolio.
The Main Takeaway
John Bogle is the right mentor to teach you about investing. He is the founder of Vanguard Group and creator of the world’s first index mutual fund. His value investing strategies have helped many people become wealthy. Common sense tells us the best investment strategy is to buy and hold all of the nation’s publicly held businesses at a low cost. Trying to beat the stock market is a loser’s game especially because of the fees involved. Owning a diversified portfolio of stocks for the long term is the way to go.