Jun 14, 2020

The Little Book of Common Sense Investing by John C. Bogle


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The Author says that, the simplest and most efficient investment strategy is to buy and hold all of the nation’s publicly held businesses, which is index fund at very low cost." Bogle maintains that the "classic index fund" that owns this market portfolio is the only investment that guarantees a fair share of stock market returns.

The book elaborates on the same practice of index investing that Bogle built the Vanguard Group around to turn a profit for clients.

Now, the index funds make up for $1 trillion in funds invested. All investment experts like Warren Buffett and William Sharpe recommend these funds. They say these are perfect for an individual investor. In this book The Little Book of Common Sense Investing, Bogle discusses what index funds do. He also explains why they’re so reliable. So, if you’re an investor, reading this book is a must. 

John C. Bogle (born 8 May 1926), who founded the Vanguard Group of Investment Companies in 1974 and built it into a giant mutual fund company, with $4.9 trillion in assets under management today, died on 16th Jan 2019.

John C. Bogle is the author of this book The Little Book of Common Sense Investing. He’s also the CEO and former chairman of Vanguard Mutual Fund Group. Vanguard is the world’s most prominent complete no-load mutual fund firm. In 1976, Bogle launched the 1st index fund of the world for ordinary people and built his empire based on his core principles of investing.

   The book explains the following concepts: 

  •  What is an Index Fund? 
  •  Why this Funds is Trustworthy? 
  •  Who should invest in Index Funds? 
  •  What are the returns on this fund compared to other funds and Individual Stocks?         
  • The way emotions, short- run mindset and admin fee impact your investment?
  • Why you must avoided fund traded on the Exchange? 
The author says that many investors don’t have any professional knowledge or training.
Consequently, they don’t check a company’s worth, and it’s stock’s value. Nor can these investors forecast a firm’s share value in the future. Thus, he advises investors to be conservative in their choices. He recommends putting money in a diverse portfolio. And the stocks in such portfolio must be held on to in the long run.
The ideal way to broadly invest is by buying an index fund. This covers the whole market. Your plan must be to buy the entire market. And then, hold on to it for the long-term. This investment principle is a sure win. In contrast, speculative investments will lose over the same time-frame.

Index Fund:

An index fund is a type of mutual fund or exchange-traded fund (ETF) with a portfolio constructed to match or track the components of a financial market index

An index mutual fund is said to provide broad market exposure, low operating expenses, and low portfolio turnover. These funds follow their benchmark index regardless of the state of the markets. 

Index funds are generally considered ideal core portfolio holdings for retirement accounts, such as individual retirement accounts. Legendary investor Warren Buffett has recommended index funds as a haven for savings for the later years of life. Rather than picking out individual stocks for investment, he has said, it makes more sense for the average investor to buy all of the S&Ps 500 Index companies at low cost an index fund offers.
An index fund is a portfolio of stocks or bonds designed to mimic the composition and performance of a financial market index.

Index funds have lower expenses and fees than actively managed funds.
Index funds follow a passive investment strategy. Index funds seek to match the risk and return of the market, on the theory that in the long-term, the market will outperform any single investment.

The core idea behind index funds is straightforward. Index funds have the highest number of diversified shares. These funds denote a portfolio holding a range of stocks which comprise an index. When the businesses in the index pay dividends, their firms’ value grows. And, so do their share prices. Overall, such growth increases the total value of an index. Hence, as all the businesses in a specific index grow, investors holding those funds prosper too.

Why are Index Fund are trustworthy Investments:
Index funds, at their best, offer a low-cost way for investors to track popular stock and bond market indexes. In many cases index funds outperform the majority of actively managed mutual funds. One might think investing in index products is a no-brainer, a slam-dunk.

An index is a group of securities defining a market segment. These securities can be bond market instruments or equity-oriented instruments like stocks, its portfolio will have the 50 stocks that comprise Nifty, in the same proportions and track a particular index, hence they fall under passive fund management.

Unlike actively-managed funds, there isn’t a standalone team of research analysts to identify opportunities and select stocks. The fund manager decides which stocks have to be bought and sold according to the composition of the underlying benchmark.
While an actively-managed fund strives to beat its benchmark, an index fund’s role is to match its performance to that of its index.

Who should invest in Index Fund:
The investment decision in a mutual fund solely depends upon your risk preferences and investment goals. Index funds are ideal for investors who are risk-averse and expect predictable returns.
These funds do not require extensive tracking. For example, if you wish to participate in equities but don’t wish to take risks associated with actively-managed equity funds, you can choose a Sensex or Nifty index fund.

These funds will give you returns matching the upside that the particular index sees. However, if you wish to earn market-beating returns, then you can opt for actively-managed funds.

The returns of index funds may match the returns of actively-managed funds in the short run. However, the actively-managed fund tends to perform better in the long term.

What are the returns of these funds compared to other funds and individual stocks:

When you buy an index fund, you are buying a basket of stocks designed to track a certain index. In effect, investors who buy shares of an index fund own shares of stock in dozens, hundreds, or even thousands of different companies indirectly. 

Someone who invests in an index does not need to actively read the annual report, Profit and Loss report and certainly don't want to master advanced finance and accounting.

When you buy shares of stock in individual businesses, you become a part owner of the company. That means you should get a proportional share of the profits or losses depending upon the success of the business experiences. 

As their profits grew, you benefited based upon the total ownership you held.
On the other hand if the companies fail and they were not able to analyse the company growth potentials or try to time the market, which no one could able to do.

So such investor need to actively read the other attributes on the company such as financial reports, revenue, debt on the company, sales report etc inorder to track each stocks.  

The way emotions, short- run mindset and admin fee impact your investment
Investing based on emotion (greed or fear) is the main reason why so many people are buying at market tops and selling at market bottoms. ... During periods of market volatility and rising interest rates, investors often move funds from riskier stocks and to lower-risk interest rate securities.

The more complex the choice and the more uncertain the subject matter, the more emotions may influence the decision, according to Joseph P. Forgas, and these emotions are often irrational, especially in investing.

The way to make money is to buy when blood is running in the streets. ... But research shows that investors invariably focus on the short-term, and ... the need for emotional comfort costs the average investor around 2-3% per year in ... because it is one of the most disastrous mind sets an investor can have.

Being fearful during bear market phases makes us procrastinate and miss out on investment opportunities. This is called worry bias.

Not letting go of our preconceived notions can lead us to hold onto non-performing investments even after their fundamentals have changed. This is called confirmation bias.

One poor investment decision can result in complete aversion to risk to avoid further negative outcomes. This is called regret aversion bias.

Chasing past performance and expecting the same to continue even though aspects of the investment may change can lead to poor decisions. This is called trend-chasing bias.

Why you must avoided fund traded on the Exchange

It is difficult to predict the liquidity of an exchange traded fund
Every ETF appoints brokers to create liquidity in the market by standing as counter-party for whosoever wants to buy or sell ETFs

To avoid fund manager risk, or the risk of stock-picking calls going wrong by the fund manager, passive funds are a good option to get an equity exposure.   

An index fund invests in all the stocks—and in the same proportion—as those in the scheme’s benchmark index. A small percentage of its corpus, up to about 5%, may be held in cash to take care of inflows and outflows. An ETF does the same, but its mechanism is different. 

An ETF creates units, which are then available on the stock market for sale where investors like you can buy them. Every ETF appoints market makers who are generally stock brokers with the main task of creating enough liquidity in the market by standing as counter-party for whosoever wants to buy or sell ETFs, in case enough buyers and sellers are not available.

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