A few decisions have the most significant impact on being a successful index investor. Yet, many spend little time thinking about these crucial topics.
Starting with investing requires making so many decisions that it is easy to get distracted by superficial things. These trivial things may lead you to think you are making progress, despite not getting to where you need to be. Here are a few examples of things that I think are overrated:
- Making tiny adjustments to an investment portfolio. This is especially concerning when the portfolio is small.
- Obsessing about already low brokerage fees.
- Worrying about the impact of recent events on investment strategy.
Unlike trivial decisions like the ones above, important decisions have a significant impact on investment returns. Ramit Sethi sums up this distinction between important and trivial decisions like the difference between asking $30,000 questions and asking $3 questions. His estimates of the potential value of each decision clarify why we should focus on the important ones.
To me, the important decisions in index investing are:
- How much you save – You can only grow what you put aside. Tweaking your portfolio may not lead to better returns, but saving more will certainly do it.
- What you invest in and why – For equities, my preference is global index funds. For fixed income, my preferences are savings accounts, savings bonds, or government bond index funds. I call this the Simple Portfolio, and I explain the reasoning behind those preferences in my book. There may be other portfolios with higher potential returns out there, but those extra returns aren’t certain so, I’d rather keep it simple and focus on increasing my savings rate instead. Market returns are good enough for me.
- How much you allocate to each asset type – The percentage you allocate to equities and fixed income has a crucial impact on your returns. A higher percentage of equities typically translates to higher returns over the long-term. However, fixed income is useful to mitigate the impact of market declines on your portfolio. This decision is a balance between returns and your risk profile.
- Your costs – You get to keep more of the market returns when you spend less on fees. Investment costs include fund costs, brokerage fees, and taxes. Costs should be reasonable, but they don’t have to be zero.
- Your behavior – Investing is similar to being fit. It is easy to learn about an exercise routine, buy equipment, or register to a gym. However, it is much harder to maintain the habit of working out over the years. Your behavior determines your ability to keep investing over the years. Your behavior helps manage your greed, fear, and impulses. Some useful habits include automating investments, checking the market infrequently, and writing down your decisions. On December 16th, I will release the 2nd edition of my book with two additional chapters on this topic.
These decisions encapsulate the essence of index investing. I think they are a pre-requisite for being a successful index investor. And they are all under your control.
Some spend far too much time trying to optimize every little thing. But I only need “good enough” to achieve my investment goals.
You should feel empowered to adjust your investments to your preferences and circumstances beyond these decisions. However, remember to focus on what matters most first.
On December 16th I will publish the 2nd edition of my book, Introduction to investing in index funds and ETFs, which will expand on the topics of this blog post.
Subscribe below to get the first chapter of the book.
Disclaimer: This information is for educational and entertainment purposes only. This does not represent, in any case, specific investment, legal nor tax advice nor recommendations to purchase a particular financial product. Learn more at https://indexfundinvestor.eu/disclaimers/