Subtitle: The only way to guarantee your fair share of stock market returns.
Today’s households are held hostage to making investment choices by the threat of facing bankruptcy after retirement. Consequently, there are well-meaning and predatory money managers who offer investment services for a substantial fee. John Bogle offers the best advice for an insignificant fee, the small cost of buying and reading this book. The scope of this book is concerned with investing wisely and cheaply in the U.S. Stock Market.
Core concepts of the book
Winning strategy. A winning strategy is to buy all of the nation’s publicly held businesses at very low cost with the idea of capturing the total return of dividends and earnings growth from business operations. The author recommends buying shares of a mutual fund that holds the stock market’s portfolio and keeping the shares “forever”. Here are the key elements of his strategy:
- Invest at very low cost– buy shares infrequently and never pay unnecessary fees.
- Reinvest the returns– participate in investment plans that provide no-cost, automatic reinvestment of capital gains and dividends. Automatic reinvestment of returns creates the exponential growth of your investment known as the ‘miracle of compounding’.
- Seek business returns, not speculative returns, from the stock market– the profits earned by businesses are translated into dividends and earnings growth in the stock market. During the 20th century, the average annual market return was 4.5% from dividends and 5% from earnings growth. By comparison, speculation generated an average annual 0.1% return.
- Buy index funds– The value of a market is measured by its index. Buy shares of mutual funds that mimic the portfolio of an index.
- Forever– a long, undefined period of time that effectively captures the earnings growth of businesses in the stock market.
Losing strategy. Trying to outsmart the winner’s game by picking and trading stocks is frequently a loser’s game. Playing the loser’s game incurs several penalties:
- Advisors (middle men; money managers) charge fees for picking stocks
- Making frequent trades in the stock market will compound the cost of paying the middle man and reduce the investor’s returns (the ‘tyranny of compounding costs’). The average investor never outperforms the stock market’s index due to the tyranny of compounding costs.
- Selling stocks incurs taxes on the capital gains
Bogle recommends the 100% indexing strategy using a mixture of stock- and bond index mutual funds. After all, the future is uncertain and bumpy. Indexing is a good strategy for managing the risk of uncertainty.
His allocation rule is a percentage of bond funds equal to the investor’s age in years. For example, 20% bonds and 70% stocks at age 20. If you, the investor, crave “excitement” invest 95% of your cash in index funds (“serious money”) and 5% in excitement (“funny money”).