When I was 18, I used to be a real penny-pincher. This is something I learned from my dad…
I would always buy cheap flat-pack furniture.
When you a teenager, you can’t afford a lot…and you end up with the quintessential “bachelor pad.”. The flimsy microwave cart. The weird cabinet thing that went over the back of the toilet. The wobbly torch light (that never wobbled in the store, mind you).
Eventually I learned not to buy cheap things because…I always ended up buying it again (eventually). As I got older, I learned quality stuff lasts longer and is more enjoyable. Cheap stuff is just…well…cheap.
And so it is with investing. It’s hard to find arguments against index funds. If you’ve done any googling at all, you’ve probably heard of it. Usually, index funds are “the way” to invest for “the common man.”
Translation: they’re a way for “know nothing” investors to feel like they know something about investing.
Hey, those aren’t my words…I’m just paraphrasing Warren Buffett.
It’s true though. Index funds are some of the cheapest investments you can buy. And, if you trust the popular websites out there, you probably think you’ll earn a gazillion dineros with no effort required on your part.
But, you won’t. Here’s something most people don’t talk about in finance…
…most businesses won’t be multi-million dollar superstars, so they need to save and invest. Most business owners can’t sell their one-man shop, so they need to save and invest.
Most self-employed types won’t be able to use cheap investments like index funds to become financially independent.
…and it’s because most businesses follow mainstream advice.
Here’s what I mean:
There are a lot of self-employed people out there who aren’t investing at all. Those people are basically dead in the water and don’t know it yet. Then there are what I call “cheapskate investors.” They hope to get something for nothing (spectacular investment returns for no work or thought).
…and then there is a tiny sliver of the market that’s intelligent.
When Buffett says index fund investors are “know nothing” investors, he means it. Professional money managers like Dan Wiener have demonstrated it, too.
Por ejemplo: According to Wiener, most of the returns touted by Vanguard don’t hold water. And, it’s because Vanguard, like many other mutual fund companies, tout trailing returns. Trailing returns show you what you might have earned if you invested a lump sum of money at the beginning of the year and held it until the end of the year. Rolling average returns, on the other hand, are what you really earn as an investor. Rolling returns assume you save a little each month over a long period of time — exactly how 99.9% of people save. Wiener showed that a lot of Vanguard’s trailing returns were bunk if you invested monthly. Their Total Stock Market fund advertised 3-year returns of 12.5%. The real return for investors over the same time period was just 5.2%. Ouch.
He did this for all their funds, and found the same thing, over and over. And, the longer he extended the time period, the worse (usually) the result. So, the advertised 5-year return on the total stock market fund showed 7.6% annual return…but the rolling average you’d actually experience as an investor was just 1.7%.
Kinda lame.
But wait! There’s more!
Index funds aren’t exempt from taxes, so after you’re done earning those returns, you pay tax, either immediately on when you start drawing money from your retirement account.
And fees. Vanguard is very good about keeping things cheap. But, cheap is not free. However small, fees reduce returns.
And well… you get what you pay for.
Now, if you’re willing to pay more, I can show you how to potentially get more without fussing around with fuzzy stock market math.
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