Investing can be overwhelming and confusing. The truth is that it is neither and this article will show you just how simple investing can be…
“Money can buy many things, but nothing more valuable than your freedom…Stop thinking about what your money can buy. Start thinking about what your money can earn.” – “The Simple Path to Wealth: Your roadmap to financial independence and a rich, free life” by JL Collins
I just finished reading The Simple Path to Wealth by JL Collins after it was recommended by a number of other bloggers such as Mr. Money Mustache, Four Pillar Freedom, The Power of Thrift, and J. Money over at Budgets Are Sexy.
JL Collins (who also just happens to live in New Hampshire!) was first published in 2016 but is one of those books I wish had been published and read ten years ago in the wake of the 2008 financial crisis. The financial crisis brought with it confusion, stress, and heartache to millions of people across America and the World. The Simple Path to Wealth outlines not only a clear outline for investing but also a thorough rationale for this simple approach.
1 First Step…Avoid Debt At All Costs!
2 Second Step…It Is Time To Do Some Investing!
3 But What About International Diversification?
4 Do You Need A Financial Advisor?
5 A Word On Dollar Cost Averaging
6 Final Thoughts
First Step…Avoid Debt At All Costs!
JL has a number of hard-hitting and poignant lines from his book – some of which I will include below for more context. Quite frankly, he gets to the point much clearer and succinctly in the passages below and his book than I ever could!
The first step to investing and growing your wealth is to avoid debt at all costs!
“If you intend to achieve financial freedom, you are going to have to think differently. It starts by recognizing that debt should not be considered normal. It should be recognized as the vicious, pernicious destroyer of wealth-building potential it truly is. It has no place in your financial life.” Being independently wealthy is every bit as much about limiting needs as it is about how much money you have. It has less to do with how much you earn—high-income earners often go broke while low-income earners get there—than what you value.”
Here’s the simple formula: Spend less than you earn—invest the surplus—avoid debt”
Now, some may take issue on this point considering the fact that many people have debt in the form of a mortgage. I am not suggesting that you hold off investing in the stock market until you have your mortgage paid off. Instead, here is where I suggest following the 7 Baby Steps by Dave Ramsey.
Second Step…It Is Time To Do Some Investing!
In the spirit of the book, I will also keep this analysis of the book simple and straightforward. In short, JL Collins advocates investing in one simple broad-based index fund from Vanguard known as VTSAX. VTSAX is the Vanguard Total Stock Market Index Fund Admiral Shares. JL writes…
“Put all your eggs in one basket and forget about it. The great irony of investing is that the more you watch and fiddle with your holdings the less well you are likely to do. Fill your basket, add as much as you can along the way and ignore it the rest of the time. You’ll likely wake up rich. Here’s the basket: VTSAX. No surprise here if you’ve been paying attention so far. This is the Total Stock Market Index Fund that holds virtually every publicly traded company in the U.S. That means you’ll be owning a part of about 3,700 businesses across the country, making it a very big and diverse basket. The fact that it is a low-cost index fund keeps more of your money working for you…Now it may look dumb/scary to “have all your eggs in one basket” here – which was my first concern – but the reality is it isn’t just one stock. It’s one stock ticker, but over 3,600 stocks (ie companies). When you invest in index funds you invest in itty bitty fractions of hundreds/thousands of companies. If any one of them die out at any time, it doesn’t kill your money. But on the flip side, it doesn’t grow your money as fast either like, say, if one of them takes off like Apple. It’s an average person’s game, with better than average results over time (and by “average” I mean compared to most of those day traders and probably your friends)…Put all your eggs into one large and diverse basket, add more whenever you can and forget about it. The more you add the faster you’ll get there. Job done.”
It is worth noting that there are a couple of comparable exchange-traded funds that will perform almost exactly the same way. Here are some of the most common:
VTI – 3654 Holdings .04% expense ratio and $0 minimum to invest
ITOT – 3105 Holdings .03% expense ratio and $0 minimum to invest
SCHB – 2371 Holdings .03% expense ratio and $0 minimum to invest
Depending on where you do you investing each one might make more sense than the other. For example, VTI is a Vanguard Fund, ITOT is a iShares Fund (Ideal for Fidelity customers) and SCHB is a Charles Schwab Fund. So, if for example, you are a Fidelity customer you should probably go with ITOT because it is $0 to trade. One important thing to note is that just because you are a Fidelity customer (using this example) you are still able to purchase VTI and SCHB but Fidelity charges a one-time trading fee which also holds true for both Schwab and Vanguard.
Why One Simple Fund?
It’s fairly simple. Here is JL in his own words…
I wanted to simplify
I wanted to be lazier
I wanted extremely low fees
I wanted to own everything and be completely diversified all at the same time
Said another way:
“Simple is good”
‘Simple is easier”
“Simple is more profitable”
“Avoid the trap of complexity”
And, if you are looking for the slightly expanded rationale…
“Financial crises are just part of the landscape and the best results come from simply riding them out. You can’t predict them and you can’t time them. Over your investing career, you’ll experience many of them. But if you are mentally tough enough you can simply ignore them. So now if we agree that we can “get our minds right,” what shall we choose for riding out the storm? Clearly, we want the best performing asset class we can find. Just as clearly that’s stocks. If you look at all asset classes from bonds to real estate to gold to farmland to art to racehorses to whatever, stocks provide the best performance over time. Nothing else even comes close. Let’s take a moment to review why this is true. Stocks are not just little slips of traded paper. When you own stock you own a piece of a business. Many of these have extensive international operations, allowing you to participate in all the markets across the globe. These are companies filled with people working relentlessly to expand and serve their customer base. They are competing in an unforgiving environment that rewards those who can make it happen and discards those who can’t. It is this intense dynamic that makes stocks and the companies they represent the most powerful and successful investment class in history.”
An important statistic to keep in mind for those that embrace this one simple approach is that it will outperform 82% of actively engaged investors.
But What About International Diversification?
JL points out three important reasons to ignore going into additional international funds.
Added risk brought on by currency risk
Added expense in that internationals funds are – for the most part – twice as expensive as total stock market funds
It’s already covered in that many of the 3,000 plus stocks contained within VTSAX (as well as the other ETF equivalents mentioned above) have operations and/or do business overseas. In fact, the largest 500 companies in the World that are held within the S&P 500. I have previously written about the four top reasons to invest in the S&P 500. One additional important point to make is that the S&P 500 consists of approximately 80% of the total stock market index funds such as VTSAX, VTI, ITOT, and SCHB. As you may have already guessed – the majority of these 500 companies have some level of international exposure.
Do You Need A Financial Advisor?
In short, no! Thanks to technology it is never been easier or cheaper to invest in low cost broadly diversified index funds and exchange-traded funds. JL Writes…
“Be wary of anyone who makes their living making money managing your money. There is far more money in recommending complex investments not simple low cost ones. Advisors are not drawn to the best investments but those that give them the largest commission. You not only lose the money by giving a commission but the future opportunity that money could have compounded to work for you. Avoid annuities and whole life insurance. Advisors are only as good as the investments they recommend. Since those are mostly actively managed funds as opposed to the passive low cost index funds how often do those outperform? Very rarely! About 20% outperform in any given year and looking at a 30 year period that drops to less than 1%. So, you can learn to pick your advisor or learn to pick your investments. The latter is cheaper and will prove to be more beneficial. No one will care more about your money more than you.”
A Word On Dollar Cost Averaging
Dollar cost averaging is just a fancy of way of investing over a period of time in small increments. It’s important to note that if you invest in a 401K or any other pre-tax retirement account each time you are paid you are using dollar cost averaging. The Simple Path To Wealth points out that statistically, the market goes up 77% of the time. Therefore, by engaging in dollar cost averaging outside of traditional individual retirement account investing where you have no other choice but to wait until you have the money and or are paid for your work you would be actively engaging in market timing which is a loser’s game.
It can be easy to forget just how lucky we are for even having the opportunity to read this article on a computer, phone or tablet online. One of the sites that is mentioned in The Simple Path To Wealth can be found at the Global Rich List. I recommend taking a few minutes to visit this site by inputting your individual income and wealth levels. You might be surprised to see where you fall!
If you are interested in reading more I encourage you to visit JL Collins website. In particular, the stock series.