Follow These 20 Rules

Document Sample
Follow These 20 Rules Powered By Docstoc
					Follow These 20 Rules
To Build a Strong Portfolio
By Jonathan Clements
The Wall Street Journal

If you're trying to pick up the pieces, pick carefully.

The bear market may be over. But many investors are a long way from recouping
their losses.

Looking to hasten your portfolio's recovery? No doubt you are anxious to avoid
further foolish mistakes. To that end, be sure to follow these 20 rules of portfolio

1. Those who amass impressive portfolios are sometimes good investors. But
they are almost always prodigious savers. Socking away a healthy sum every
month is the surest way to make your financial accounts grow.

2. Before deciding what to buy, consider when you will sell. Stocks may be your
best bet for earning high long-run returns. But if you are within five years of
needing your money, you can't afford the risk involved.

3. Your attention will inevitably be drawn to the results for each of your
investments. But what really matters is the performance of your entire portfolio.

4. For long-term investors, the big threats are inflation, investment costs and
taxes. If your returns aren't high enough to beat back those three threats, you
aren't making any money.

5. Your stock-bond mix is almost always an unhappy compromise. You should
put enough in stocks to generate the sort of long-run returns you need, but not so
much that you become unnerved next time the market tumbles.

6. If you're a long-term investor, you shouldn't have all your money in stocks or
all your money in bonds. Stocks and bonds often move in opposite directions, so
you can reduce your portfolio's volatility by owning both.

No matter how squeamish you are, don't put less than 20% of your portfolio in
stocks. Similarly, no matter how aggressive you are, don't let your bond holdings
drop below 10%.

7. Once you decide what percentage of your portfolio you want in stocks, look to
rebalance back to this percentage at the end of each year. That will force you to
buy stocks in market declines and lighten up when stocks are roaring ahead.

8. In divvying up your portfolio among various stock and bond sectors, an
unswerving commitment is much more important than the precise mix. Some
experts suggest stashing 10% of a stock portfolio in foreign stocks, while others
advocate 40%. But within reason, the exact amount is less important than your
willingness to stick with your chosen percentage through thick and thin.

9. Buying risky assets can lower your portfolio's risk level. On their own, gold
stocks, high-yield junk bonds and emerging markets are enormously risky. But if
you add a sliver of these investments to your portfolio, you can actually reduce
your portfolio's overall risk, because these investments may post gains when
your core stock and bond holdings are suffering.

10. Whenever a market falls in value, you should become more enthusiastic, not
less so. Individual stocks and bonds may lose all value. But it is rare that entire
markets disappear. To be sure of capturing a market's performance, buy mutual
funds, not individual stocks.

11. Never buy an actively managed stock fund unless you are confident it will
outperform competing index funds. With my own portfolio, I find it hard to
summon that sort of confidence, which is why I have almost all my money in
market-tracking index funds.

12. The quickest way to get poor is to bet everything on one stock. The quickest
way to get really poor is to bet everything on your employer's stock. Just ask the
laid-off employees of WorldCom (now called MCI), Enron and other troubled
corporations, who lost both their paychecks and their nest eggs.

13. When you buy an investment, you never know whether you have yourself a
winner. But if you hold down costs, you will definitely improve your results.

Indeed, trying hard to outperform the market is almost always self-defeating. The
more you trade, the more you incur in investment costs, thus making it less likely
you will beat the market.

14. The biggest investment cost is taxes. To slash your portfolio's tax bill, max
out your 401(k), fund your individual retirement account and trade with great
reluctance in your taxable account.

15. If you keep costs low and maturities short, you won't go too far wrong with
bonds. Short-term bond funds will give you much of the yield of longer-term bond
funds, but with a fraction of the price gyrations.

But which funds should you buy? It's tough for a bond manager to overcome high
annual expenses, so your top fund-picking criteria should be cost.

16. If you are at a loss for what to buy, consider purchasing either inflation-
indexed Treasury bonds or Series I savings bonds. They are probably the closest
you will ever get to a risk-free investment. There is no credit risk, because the
bonds are government-backed, and there is no long-run inflation risk, because
the bonds offer a fixed yield above inflation.

17. Paying down debts is like buying bonds. When you buy bonds, you lend
money to others, in return for which you earn interest. By contrast, when you pay
down debts, you reduce the amount you owe to other folks and thus reduce the
amount of interest you have to pay.

Paying off credit cards and other high-cost debt is one of the smartest
investments you can make. Depending on your mortgage's interest rate, it can
also make sense to make extra principal payments on your home loan.

18. The biggest gain from homeownership doesn't come from price
appreciation. Instead, the big gain comes from the rent or, if you live in your own
home, the imputed rent. One implication: You shouldn't expect huge profits if you
buy a vacation home and then use it yourself, rather than renting it out.

19. If you want to invest in real estate, I would forget buying actual properties
and instead purchase real-estate investment trusts. With REITs, you will get the
sort of returns enjoyed by real-estate owners, but without the hassles of being a

20. For the sake of your sanity and your heirs, keep your portfolio simple. Draw
up a list of all your investments. If the list doesn't fit on one page, you own too
many investments.

Shared By: