Wednesday 19 November 2014

Basic Investment Principles

Here is a list of very basic principles as prerequisite to investing. This is a concise list. Each line deserves a chapter, if not a book, on its own.

  • Pay yourself first. Establish a habit to save regularly. 
  • Start early. Benefit from the magic of compounding interest. 
  • Keep costs low. Costs eat a huge portion of returns over time. 
  • Use value-averaging, or dollar-cost averaging. Invest regularly the same amounts at equal intervals. Because of markets' reversion to the mean this leads to dollar-cost-averaging of the asset price.
  • Stick to index funds ("what you understand") as the core. Active funds are expensive and, in general, return less. Specialist funds or individual securities can be used as satellites. This is known as "core-satellite" strategy.
  • Keep cash portion in liquid bonds for better returns. 
  • Stick to your asset allocation.
  • Pay attention to the total return (income + growth). Income funds yield more but usually have lower total return. Tax effects of income - income is taxed immediately but tax on growth is delayed (taxed only if sold).
  • Long-term price earnings (P/E) ratio is 14. Starting valuations matter.
  • Asset allocation, the risk balance, is the main determinant of return. Bonds proportional to age (?). 

The principles above come from various texts and personal experience. They should be refined over time.

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