After reading this, you may ask: I don’t have time to study so many funds. If I don’t find a professional, how can I know which one to buy? The answer is simple: buy an index mutual fund (Broad-market Index Fund) that tracks the broad market index. The so-called Broad-market refers to the S&P 500 Index, Nasdaq-100 Index, or other similar broad market indexes in the United States. Index Fund is a mutual fund that tracks these indexes. These funds buy the stocks that the broad market index includes, and the holding ratio also completely simulates the weight of the broad market index. Therefore, if the broad market rises by 5%, these funds also rise by 5%, and if the broad market falls by 3%, these funds also fall by 3%.
Why buy index funds instead of other types of funds?
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We assume here that you want to make long-term investments, investing continuously for at least 10 years, to accumulate funds for your future retirement or your children’s college education. If you do not plan to invest long-term, this article is not suitable for you, because the benefits of index funds can only be reflected in long-term investment. However, the long-term investment I am talking about here is not Buy and Hold, which only buys but does not sell. I will explain this in detail later.
Everyone knows that the stock market has ups and downs, and bull markets and bear markets always alternate. However, from a long-term historical perspective, the overall trend of the stock market is upward, that is, the time it rises is more than the time it falls. This is because society is always progressing and the economy is always getting stronger (except for third world countries). The stock market is a barometer of the economy. Depression is temporary, and wars cannot be endless. We have no reason to believe that the earth will decline from now on, so the long-term trend of the stock market must be upward.
In the more than 100 years of stock history in the United States, no investment product (such as real estate, bonds, gold, etc.) can surpass the long-term return rate of stocks. Therefore, if it is for long-term investment, stocks are the first choice. Mutual funds that track the market index are better than other types of stock funds, because many statistical surveys show that the average annual return rate of more than 70% of stock funds is not as high as the market index. In other words, 7 out of 10 stock funds you have spent a lot of time to select are not as high as the return rate of the market index. Since the probability of error in selecting stock funds is so high, you might as well choose index funds, which saves time and effort, and has the lowest management fees.
So, after deciding on an investment product, how should you buy and sell index funds? When should you buy and when should you sell?
I said that mutual funds are suitable for ordinary people who do not have the energy to study the stock market but want to invest for the long term (more than 10 years) to prepare for their retirement or their children’s schooling. Among the various types of fund products, index mutual funds that track the stock market are the first choice because they have the lowest fees and a higher rate of return than most stock funds, while other investment products, such as real estate, bonds or gold, have a lower long-term rate of return than stocks.
After determining the investment product, this article will discuss how to buy and sell index funds, when to buy and when to sell, and how to adjust the investment portfolio to maximize returns and reduce risks.
There are many stock index funds in the US investment market that track the US stock market, such as the famous Vanguard 500 Index Fund, which tracks the S&P 500 large-cap index. In addition, there are small-cap index funds, such as the Vanguard Small Cap Index Fund, and bond funds, such as the Vanguard Total Bond Market Index Fund, which are all index funds suitable for investors to buy. Other fund companies have similar index products, and you should choose the index fund with the lowest management fee (Expense Ratio).
With these three large-cap, small-cap, and bond index funds, you have a solid foundation for your portfolio. The next step is to consider when to buy or sell, and adjust the proportions of the three funds in your portfolio to reduce risk and increase returns.
First, you need to decide the proportion of the three funds based on your investment goals and time frame. If young people are preparing for retirement, they can put most of their money in stock funds, for example, the three funds reach a ratio of 6:3:1 or 5:4:1, and only increase the proportion of bond funds when the stock market enters a bear market (see the following introduction for how to do it). If middle-aged and elderly people are approaching retirement age, they should reduce their stock funds and put more than half of their money in bond funds to reduce the risk of a sharp decline in assets in the short term.
Secondly, you cannot invest all your money at once and then hold it for a long time without paying attention to it. Few people do this, but it is still necessary to remind you, because if you are unlucky enough to buy near the peak of the stock market (for example, in 2000), then after many years, your account may have been in a loss state, which has a great impact on your emotions. Most people can’t stand this kind of torment and are prone to make impulsive decisions and fail.
In terms of buying and selling operations, North American office workers usually deduct some money from their salary regularly to buy funds, or take out a sum of money to buy at the end of the year because they have to file taxes. The former approach is obviously more planned and easier to spread risks. Even if you are self-employed (freelancers) and do not have a fixed income, you should try to invest once every quarter. Because as mentioned earlier, you do not have the time and experience to study the stock market. If you invest money all at once, you may be affected by the market sentiment at the time and buy at the highest point of the stock market, or you may not dare to buy stock funds at the lowest point of the stock market, and buy all bond funds and miss the best time to make profits from stocks.
The investment portfolio discussed in this article includes three types of index funds: large-cap stocks, small-cap stocks, and bonds. So, should all funds be purchased in the same proportion each time? My answer is no. You should judge how risky it is to hold stocks based on the market situation at the time. If the stock market is in a long-term downward trend, blindly buying stock funds will make the book assets worse.
Although you don’t have the time or experience to analyze the stock market, you can use a simple method to determine whether the long-term trend is rising or falling before each investment: look at the daily chart of the S&P 500 index. If the 200-day moving average is falling, only buy bond funds. If the 200-day moving average is rising, buy three index funds in proportion. Although this method of judging the general trend is not accurate, it is sufficient for long-term fund investment. Its purpose is very clear: when the US stock market rises, buy three index funds in a predetermined proportion; when the US stock market falls, increase the investment proportion of bond funds; when the stock market resumes its rise, buy more stock funds to restore the holding proportion of the three funds to normal.
Please note that the proportion of these three types of funds should be gradually adjusted as you age. The closer you are to retirement age, or the age when your children need money for school, the greater the proportion of bond funds should be. The reason is simple: you don’t want to catch a big bear market when you are about to retire, and your stock funds will shrink significantly, causing your retirement plan to be postponed.
Finally, this article does not mention stock index funds outside the United States, such as international market index funds or emerging market index funds. Many people buy such funds to diversify their investment portfolios and reduce risk, but I don’t think this is very effective. With the global economic integration, the stock markets of various countries are highly interconnected. Unless one day the US economy changes its leading position in the world and the stock markets of other countries no longer rise and fall together with it, there is no need to buy so many types of funds. This will only complicate investment and may not necessarily improve the effect.
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