So you have read my previous blog post on why you bother to invest your money. If you have not read it, follow the link below:
https://diarmaidmcmenamin.medium.com/why-should-you-bother-to-invest-503143fa0b58
So you now want to invest your money, but the next question is in what? There are multiple options, property, commodities (such as gold, oil etc.), bonds, stocks and shares. Even the newer digital assets such as online business, e-commerce and NFTs are potential options.
I will do future blogs on each asset class, but today I want to concentrate on stocks and shares. They are an easy way to invest money in pensions, ISAs and children's ISAs, but where should you start?
There are several ways to invest in stocks and shares.
Firstly buying individual stocks. Buying single stocks has the potential for very large gains but is a potentially more risky option. If you can read companies' financial statements, their track record, the nature of their business, and the environment they operate in, then there is potential to make a lot of money with this approach. Some advocates of this method, such as Warren Buffet, suggest picking undervalued stocks and holding on to them for a very long time. This approach does require financial education and is not for most average investors.
Secondly, buying a fund managed by a fund manager. Within the fund, these can be actively managed, with the fund manager making decisions about what and when to buy and sell within the fund. They will often make the case that they outperform the market and, therefore, are worth paying the fees. But, again, you are effectively outsourcing the leg work to a fund manager and expect to pay higher fees (sometimes much higher).
The third option is buying a fund which is a specific type of investment in all of the stock markets within a certain index (e.g. FTSE 100, S and P 500). These produce a very diversified portfolio, and as no one is actively managing them, they reflect exactly the ups and downs of the chosen stock market. They often have very low fees, and these index funds are far less exciting than buying and selling or actively managed funds.
So if you are starting to invest, what should you approach should you use?
The rest of this blog shares the lessons from the great book by Jack Bogle - The Little Book of Common Sense Investing. He was the founder and CEO of the Vanguard Group, now one of the global market leaders in index funds. So what can we learn from this book?
People often don't understand the problems with actively managed funds
While many different types of investment vehicles are available to investors, one of the most popular is the mutual fund. Mutual funds offer a variety of benefits, including professional management and a diversified portfolio. However, mutual funds also have some drawbacks, chief among them fees. Both actively managed and passively managed funds charge fees, but actively managed funds tend to have higher fees. In addition, actively managed funds may underperform their benchmarks due to the higher fees. As a result, investors need to understand the fees associated with mutual funds before investing. Otherwise, they may pay more in fees than they earn in returns.
Funds which are actively managed often underperform the market due to fees
Mutual fund managers don't have to outperform the market indexes to receive a handsome compensation package. They need to beat their mutual fund peers. Mutual fund managers are compensated more for beating their peers than for beating the market indexes. This competition creates a perverse incentive for mutual fund managers to take more risks to beat their peers. The result is that actively managed mutual funds often underperform the market as a whole.
Furthermore, mutual fund managers charge high fees for their services. This eating away of returns further reduces the chances that an actively managed mutual fund will outperform the market. For these reasons, many investors have decided to invest their money in index funds instead of actively managed mutual funds. Index funds are much cheaper to manage than actively managed mutual funds, and they have a proven track record of outperforming the market over the long term.
Investing your money in actively managed funds may work in the short term but is very unlikely to be successful in the longer term
Investing your money is about finding the right balance of risk and reward. If you're investing for the short term, you're looking for a higher return on your investment, but you're also taking on more risk. In the long term, however, investing in actively managed funds is unlikely to be successful. Over time, the fees charged by these funds eat away at any gains you might make, and the market is likely to outperform even the best actively managed fund over the long term. So if you're investing for the long run, it's better to put your money into a low-cost index fund or ETF. These funds offer a much lower risk profile, and while they may not provide the same level of returns in the short term, they are much more likely to be successful over the long haul.
Jack Bogle does a clear analysis and looks at fund managers' performance over time. IF you are lucky enough or skilled enough to choose the fund that outperforms the market, there are approaching zero who can achieve this over the medium/ long term.
When its time to invest your money in the stock market, choose a diversified index-linked fund with the lowest fees
When it comes to investing your money, there are a lot of options out there. With so many different stocks and mutual funds to choose from, it can be not easy to know where to start. However, one of the best ways to invest your money is in a diversified index-linked fund. These types of funds track a stock market index, such as the S&P 500, and offer a great way to invest in many companies without picking and choosing individual stocks. In addition, these funds typically have low fees, making them a great option for investors looking to keep their costs down. Finally, these types of funds can be a good choice for investors with a long-term time horizon. While stock prices may fluctuate in the short term, over the long run, they tend to move up. Therefore, investing in a diversified index-linked fund can be a great way to grow your money over time.
Beware of new trends in investing
There are always new trends in investing. Whether the rush to buy tulips in the 17th century or digital assets in today's world, there is always a new and shiny thing to invest in.
Sometimes these pay off, but other times they do not over a longer time horizon. Remember investing is about growing money over a longer period. Today's new and shiny thing is NFTs and cryptocurrency, and it is easy to get carried away with why this newest thing will pay off. However, Jack Bogle shows us in this book that far from being exciting, the best way to invest money is an investment in low-cost, low-risk index funds over a longer time horizon.
Even the great investor Warren Buffet has 80% of his funds in low-cost index funds over the long term. Some are his other investments in more exciting and well-considered alternatives.
Investing can be a great way to secure your financial future, but it's important to be aware of the risks involved. The stock market can be volatile, and new trends can sometimes be more hype than substance. When considering any new investment, it's crucial to research and ensure you understand the risks involved. If you're unsure where to start, plenty of resources are available to help you get started. The most important thing is to take your time and ensure you're comfortable with the investment before putting any money down.
Actionable Steps
1. Review your financial goals - what are you trying to achieve? Pension? Saving for a house? An alternative?
2. If you are invested, look closely at what you are invested in - individual stocks? Active funds? Index-linked funds?
3. Look at the performance over the last five years and how much fees have cost you?
4. Buy and read the book:
5. If this has been useful, be sure to subscribe at www.diarmaidmcmenamin.com or https://diarmaidmcmenamin.medium.com/membership
Good luck on your journey!
Diarmaid
This information is in no way meant to represent financial advice which is highly regulated. This blog is for educational purposes only. For specific advice please seek out tailored advice from an FCA-approved advisor (or equivalent for your country of residence)
