Millionaire Teacher

1. Spend Like You Want to Grow Rich: Mindful Consumption is Key

"Just because someone collects a large paycheck and lives like Persian royalty doesn't necessarily mean he or she is rich."

Wealth is relative. True wealth is having enough money to never work again if you choose, and investments that can provide twice your country's median household income over a lifetime. Many high-income earners are not truly wealthy due to excessive spending and debt.

Live below your means. To build wealth on a middle-class salary, avoid lifestyle inflation and focus on saving and investing. This doesn't mean living like a miser, but rather being mindful of your spending and prioritizing long-term financial goals over short-term gratification.

Avoid consumer debt. High-interest credit card debt can quickly erode your wealth-building potential. Pay off credit card balances in full each month and avoid borrowing for depreciating assets like cars. Instead, save and invest the difference between your income and expenses.

2. Harness Compound Interest: Your Greatest Investment Ally

"Starting early is the greatest gift you can give yourself."

The power of compound interest. Albert Einstein allegedly called compound interest the eighth wonder of the world. When you invest early and consistently, your money grows exponentially over time as you earn returns on your initial investment and on the accumulated returns.

Start investing as soon as possible. The earlier you start, the more time your money has to compound. Even small amounts invested regularly can grow significantly over decades. For example:

• $100 invested monthly at 10% annual return for 40 years = $632,408
• $100 invested monthly at 10% annual return for 20 years = $76,570

Consistency is key. Regular investing through dollar-cost averaging helps smooth out market volatility and takes advantage of compound growth over time. Automate your investments to ensure consistent contributions regardless of market conditions.

3. Low-Cost Index Funds Outperform Actively Managed Funds

"After nearly 50 years in this business, I do not know of anybody who has done it successfully and consistently. I don't even know anybody who knows anybody who has done it successfully and consistently."

The evidence is clear. Numerous studies have shown that low-cost index funds consistently outperform actively managed funds over the long term. This is due to lower fees, broader diversification, and the inability of most fund managers to consistently beat the market.

Fees matter. Even small differences in fees can have a significant impact on long-term returns due to compound interest. Index funds typically have much lower expense ratios than actively managed funds:

• Average actively managed fund expense ratio: 1-2%
• Average index fund expense ratio: 0.1-0.3%

Simplicity and consistency. Index investing provides broad market exposure without the need to try to pick winning stocks or time the market. This approach is simple, low-cost, and has been endorsed by financial experts like Warren Buffett and Nobel Prize-winning economists.

4. Conquer Emotional Investing: Be Greedy When Others Are Fearful

"If you can alter your perspective to be satisfied with what you have, then you won't be as tempted to blow your earnings."

Emotions are an investor's worst enemy. Fear and greed often lead investors to buy high and sell low, significantly underperforming the market over time. Successful investing requires discipline and a long-term perspective.

Embrace market downturns. Instead of panicking during market crashes, view them as opportunities to buy quality investments at a discount. Warren Buffett famously advises to "be fearful when others are greedy and greedy when others are fearful."

Focus on the long term. Ignore short-term market noise and focus on your long-term financial goals. The stock market has historically trended upward over long periods, despite short-term volatility. Maintain a consistent investment strategy regardless of market conditions.

5. Build a Balanced Portfolio with Stocks and Bonds

"Only an irresponsible portfolio would fall 50 percent if the stock market value were cut in half. That's because bonds become parachutes when stock markets fall."

Asset allocation is crucial. A balanced portfolio of stocks and bonds helps manage risk and smooth out returns over time. Stocks provide growth potential, while bonds offer stability and income.

Adjust your allocation over time. A common rule of thumb is to have a bond allocation roughly equivalent to your age. As you get older and approach retirement, increase your bond allocation to reduce portfolio volatility. For example:

• Age 30: 70% stocks, 30% bonds
• Age 50: 50% stocks, 50% bonds
• Age 70: 30% stocks, 70% bonds

Rebalance regularly. Periodically adjust your portfolio back to your target allocation to maintain your desired risk level and potentially boost returns by systematically buying low and selling high.

6. Global Diversification: Invest in International Markets

"With just three index funds, your money can be spread over nearly every available global money basket."

Don't limit yourself to home country bias. Investing solely in your home country's market limits diversification and potential returns. The global economy offers opportunities for growth and risk reduction through international diversification.

Create a globally diversified portfolio. A simple approach is to use three core index funds:

1. Home country stock market index
2. International stock market index
3. Bond market index

Consider emerging markets. While more volatile, emerging markets can offer higher growth potential. However, limit exposure to a small percentage of your overall portfolio due to increased risk.

7. Beware of Financial Advisors' Conflicts of Interest

"The vast majority of financial advisers are salespeople who will put their own financial interests ahead of yours."

Understand advisor incentives. Many financial advisors earn commissions by selling high-fee investment products, creating a conflict of interest with their clients' best interests.

Seek fee-only advisors. If you need professional help, look for fee-only advisors who charge a flat fee or hourly rate for their services, rather than earning commissions on product sales.

Educate yourself. Take control of your finances by learning about investing principles and strategies. With knowledge and discipline, many investors can successfully manage their own portfolios using low-cost index funds.

8. Avoid Get-Rich-Quick Schemes and Market Timing

"Nobody can guarantee those kinds of returns."

Be skeptical of promises. High-yield investments, market timing strategies, and get-rich-quick schemes often lead to significant losses. If an investment opportunity sounds too good to be true, it probably is.

Avoid common pitfalls:

• High-yield bonds ("junk bonds")
• Investment newsletters promising market-beating returns
• Attempts to time the market based on economic predictions
• Overconcentration in trendy sectors or individual stocks

Stick to proven strategies. Focus on building a diversified portfolio of low-cost index funds and maintaining a long-term perspective. Avoid the temptation to chase performance or make drastic changes based on short-term market movements.

9. Rebalance Your Portfolio Regularly for Optimal Returns

"If you rebalance a portfolio like this just once a year, you'll beat 90 percent of investment professionals over time."

Maintain your target allocation. Regular rebalancing helps maintain your desired risk level and can potentially boost returns by systematically buying low and selling high.

Rebalancing methods:

1. Calendar rebalancing: Adjust your portfolio at set intervals (e.g., annually)
2. Threshold rebalancing: Rebalance when asset allocations drift beyond a certain percentage (e.g., 5%) from targets
3. Combination approach: Use both calendar and threshold rebalancing

Tax considerations. Be mindful of potential tax implications when rebalancing in taxable accounts. Consider using new contributions or rebalancing within tax-advantaged accounts to minimize tax impact.

10. If You Must Pick Stocks, Limit It to 10% of Your Portfolio

"No matter what kind of early results you achieve, don't get romanced by the notion that it's going to be easy to beat the market—and don't allocate more than a small portion of your portfolio to individual stocks."

Acknowledge the challenge. Beating the market consistently through individual stock picking is extremely difficult, even for professional investors. Most investors are better off with a diversified index fund approach.

Limit stock picking to 10%. If you enjoy researching and selecting individual stocks, limit this activity to no more than 10% of your overall portfolio. This allows you to satisfy your interest while minimizing potential negative impact on your long-term financial goals.

Follow sound principles:

• Invest in businesses you understand
• Focus on companies with sustainable competitive advantages
• Buy at reasonable valuations
• Hold for the long term
• Diversify across industries and company sizes

Last updated: July 19, 2024