Economics - General

How to invest your money

Paul Merriman one of the few investment advisors I respect.  His blog is full of useful information.  His advice is simple:

  1. Invest in Index Funds.  For an average investor, attempting to ‘beat the market’ or is a wasteful endeavor.  Index funds diversify risk by allowing investors to hold a large variety of stocks while minimizing fees.
  2. Invest for the Long Run.  Some investors try to time the market.  Professionals may be able to do this since they can trade with very low or zero fees and may have access to insider information.  Although trading on insider information is illegal, many people still do it (see Martha Stewart).  For the average investor, fees will destroy most gains from this strategy and, by definition, the average investor gets the average return.
  3. Asset Allocation is key.  Historically, small-cap stocks have preformed better than large cap stocks.  Value stocks have preformed better than growth stocks.  Merriman suggests weighting your portfolio more towards small cap and value stocks, unless you are near retirement when you should invest heavily in bonds.

Why don’t other investment advisors advocate the same principles as Merriman.  Brokers make money every time you trade a stock; thus they have incentives to advise you to ‘pick the winners’ and trade often since it allows them to make more money.  Economists side with Merriman.  Although in the short run, 50% of stock brokers will beat the market, in the long run, Merriman’s advice will lead to better returns.