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The key is to recognize these consistently successful patterns and to model them, using them to guide the decisions you make in your own life.
But it’s not enough to know a principle. You have to practice it. Execution is everything.
The best investors understand that these principles must be obsessions. They’re so important that you need to internalize them, live by them, and make them the foundation of everything you do as an investor. In short, the Core Four should be at the very heart of your investment playbook.
CORE PRINCIPLE 1: DON’T LOSE
The first question that every great investor asks constantly is this: “How ca...
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the more money you lose, the harder it is to get back to where you started.
Warren Buffett’s famous line about his first two rules of investing: “Rule number one: never lose money. Rule number two: never forget rule number one.”
we have to design an asset allocation that ensures we’ll “still be okay,” even when we’re wrong. Asset allocation is simply a matter of establishing the right mix of different types of investments, diversifying among them in such a way that you reduce your risks and maximize your rewards.
CORE PRINCIPLE 2: ASYMMETRIC RISK/REWARD
the rewards should vastly outweigh the risks. In other words, these winning investors always seek to risk as little as possible to make as much as possible. That’s the investor’s equivalent of nirvana.
One way to achieve asymmetric risk/reward is to invest in undervalued assets during times of mass pessimism and gloom. As you’ll learn in the next chapter, corrections and bear markets can be among the greatest financial gifts of your life.
Most people get so scared during crashes that they see only the downside. But Buffett made sure that it was almost impossible for him to lose. In other words, it’s all about asymmetric risk/reward!
different opportunities will always present themselves, depending on the economic climate or market behavior.
CORE PRINCIPLE 3: TAX EFFICIENCY
there’s only one number that truly matters: the net amount that you actually get to keep.
By contrast, if you hold most investments for a year or more, you’ll pay long-term capital gains tax when you sell. The current rate is 20%, which is way lower than the rate you pay on your ordinary income. Simply by being smart about your holding period, you’re saving up to 30% on taxes.
it’s so important to invest in a tax-efficient way?
They know that it’s not what they earn that counts. It’s what they keep. That’s real money, which they can spend, reinvest, or give away to improve the lives of others.
One of the most serious problems in the mutual fund industry, which is full of serious problems, is that almost all mutual fund managers behave as if taxes don’t matter. But taxes matter. Taxes matter a lot.”
You should take every opportunity to invest in a tax-deferred way.”
But the pretax figure is phony, whereas the net number doesn’t lie. Your goal, and mine, is always to maximize the net.
But here’s the best part: the US government needs to promote domestic energy production and distribution, so it has given MLPs preferential tax treatment. As a result, most of the income you receive is offset by depreciation, which means that roughly 80% of your income is tax free. So if you make a 10% return, you’re netting 8% annually. That’s pretty nice, right?
CORE PRINCIPLE 4: DIVERSIFICATION
don’t put all your eggs in one basket.
Diversify Across Different Asset Classes. Avoid putting all your money in real estate, stocks, bonds, or any single investment class. 2. Diversify Within Asset Classes. Don’t put all your money in a favorite stock such as Apple, or a single MLP, or one piece of waterfront real estate that could be washed away in a storm. 3. Diversify Across Markets, Countries, and Currencies Around the World. We live in a global economy, so don’t make the mistake of investing solely in your own country. 4. Diversify Across Time. You’re never going to know the right time to buy anything. But if you keep adding
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think the single most important thing you can do is diversify your portfolio.”
“It’s almost certain that whatever [asset class] you’re going to put your money in, there will come a day when you will lose 50%–70%.”
“The holy grail of investing is to have 15 or more good—they don’t have to be great—uncorrelated bets.”
by owning 15 uncorrelated investments, you can reduce your overall risk “by about 80%,” and “you’ll increase the return-to-risk ratio by a factor of five. So, your return is five times greater by reducing that risk.”
You can be unshakeable, too, but this is a gift that only you can give yourself. When it comes to the areas of your life that matter most—your family, your faith, your health, your finances—you can’t rely on anybody else to tell you what to do.
You can’t give another person control over your destiny, no matter how sincere or skilled he or she may be.
tumultuous
bear markets are either the best of times or the worst of times, depending on your decisions. If you make the wrong decisions, as most people did in 2008 and 2009, it can be financially catastrophic, setting you back years or even decades. But if you make the right decisions, as my firm and its clients did, then you have nothing to fear. You’ll even learn to welcome bear markets because of the unparalleled opportunities they create for coolheaded bargain hunters.
the right asset allocation—a
the proportion of your portfolio that’s invested in different types of assets, including stocks, bonds, real estate, and alternative investments.
you won’t be forced to sell while stocks are down.
“The four most expensive words in investing are ‘This time it’s different.’ ” In the midst of a market meltdown, people always think this time is different!
Psychologically, it’s not easy to buy when pessimism is rampant. But the rewards often come spectacularly fast.
The additional reward you receive for taking that additional risk is called a risk premium.
The riskier an asset seems to be, the greater the rate of return an investor will demand.
When you buy a stock, you’re not buying a lottery ticket. You’re becoming a part owner of a real operating business. The value of your shares will rise or fall based on the company’s perceived fortunes.
By investing in a stock, you’re making the shift from being a consumer to being an owner.
On average, the market is down about one in every four years.
At the same time, it’s useful to recognize that the market has made money three out of every four years.
In short, bad news is an investor’s best friend. It lets you buy a slice of America’s future at a marked-down price.
“Over the long term, the stock market news will be good.” If you truly understand this, it will help you to be patient, unshakeable, and ultimately rich.
When you buy a bond, you’re making a loan to a government, a company, or some other entity.
Bonds are loans.
When you lend money to a company such as Microsoft, it’s a corporate bond. And when you lend money to a less dependable company, it’s called a high-yield bond or a junk bond.
Similarly, a young tech firm that wants to borrow money must pay a higher rate than a blue-chip giant such as Microsoft.
