How to Retire Rich

Men's Health gives us four steps to retiring rich. The tips (at least the first two) come from the author's discussion with Warren Buffett, so it's worth listening to them. The list:

RULE 1: Instead of trying to time the market, try to tie it. Unless you're a top sensei yourself, don't try to beat the market. Instead, cast the widest net possible using index funds. Buy a fund that tracks the S&P 500 or maybe even the entire U.S. stock market. If you're able to lock in the gains of the market--roughly 10 percent a year, historically--you will have accomplished a vast amount.

RULE 2: When you're tempted to sell, buy. When stocks are in the tank, your gut will tell you to bail, to move your money into less-volatile investments like bonds or money-market funds. It's human nature. It's also a huge mistake. When the market plunges--over days, months, and years--there are opportunities to make real money.

RULE 3: Collect sectors. But you have another best friend, one you don't spend a whole lot of time thinking about: diversification. You don't want to be thrown for a huge loss by drops in any one sector. Make sure your holdings cover the entire investment field, so if "energy" collapses, you might be protected by gains in, for example, "financial services" or "health care." This is another great reason to invest in an S&P 500 index fund: It comprises stocks from virtually every sector.

RULE 4: Invest in yourself (involuntarily). Chances are you're putting away money for retirement automatically; your employer takes it out of your paycheck, pretax. If you ever want to amass a lot of liquid assets--that is, money you can spend today if you want--you need to set your savings to automatic, as well.

Here's my take on each of these:

1. Yep, I agree 100%. That's why I invest in index funds.

2. In the current volatile market, I'm buying all the way down. When stocks go on sale, I like to stock up. ;-)

3. Another vote for index funds.

4. I have automatic savings in my 401k, our IRAs, and our taxable accounts. It not only makes sure we do the investing we want to, but it saves a bunch of time versus doing it the old-fashioned way (manually executing one trade at a time.)

Comments

[planner]

I have to point this out again because I think the biggest help you can give people is to build real understanding of things. It's funny how twisting words can make something sound good and bad at the same time. Rule 1 says timing is bad while rule 2 says timing is good. What most people confuse, including experts, is that they see timing purchases as good but timing sales as risky. Selling is generally seen as bad risk if you plan on going back in the market. This is a combination of out of market risk (missing good days/weeks), transaction costs, etc. Buying is generally seen as good risk because it is assumed that if you hold long enough you will end up ahead. It never assumes that was your best move, only that you will come out ahead, and assumed to be ahead by the average amount of past market returns.

To illustrate what I understand of this let's pretend I want to invest $4800 each year and I want to use general rules to help me do that. Rule 1 says I should just invest all $4800 the first trading day each year, so each year I match the market for the year. If I don't buy the first day and measure the last day I bet there is a very tiny chance that I tied the market (less fees and expenses, of course). Rule 2 says I should factor in opportunity cost and hold some money back to buy on the dips. The rest of the money I would guess would be invested all up front to meet rule 1. But why do this unless you are trying to time the market (isn't that bad)? Another option (rule 5?) would be investing at regular intervals. Dollar cost averaging would tell me I might consider investing $400 each month. That could be done to buy through the volatility to average out costs or it could be done because that is what my cash flow allows.

I see the value in the advice, and I value FMF sharing it and explaining his strategy of dollar cost averaging (auto investments) and buying extra on the dips (timing additional purchases). I just want to help clear up the confusion with generic tips that talk in circles saying:
timing is bad
so just match the market
but you probably won't invest day 1 and measure day 365
so invest when you can throughout the year
but then you could do better if you buy extra when you think there is a discount
but timing is bad...

[Emma]

I have to agree with No. 2. Has anyone else noticed that stocks are on sale right now. :)

[Dave]

I also agree with planner. #1 says don't try to time the market, but #2 says buy when the market is down? Also, #3 also implies timing of some sort. It's easy enough to say collect sectors but what does that mean? Buy certain sectors at certain times? Again, timing the market.

I think an alternate way of reading these rules is that they are about discipline, not timing. In other words, rule #1, dont try to time the market. Buy regularly. Rule #2 means DON'T STOP BUYING just because the market is going down. It's actually a great time to start buying, not selling.

[pop]

"Has anyone else noticed that stocks are on sale right now. :)"

Yeah, this is the 5% off sale. I prefer the red tag 30% off variety, so I'll wait till late this year.

[Brian]

Hey! I think I told you about this article. I love Men's Health and it's great to see that your two ideas match, makes me feel even that more comfortable in my investment plans.