Book review: The Little Book of Common Sense Investing

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The Little Book of Common Sense Investing: The Only Way to Guarantee Your Fair Share of Stock Market Returns (Little Book Big Profits) by John C. Bogle.

For years there were two books that I recommended to people who wanted advice on investing. One, by Andrew Tobias (which I'll post a review of presently), was for people who viewed investing at least partially as a source of entertainment--people who were interested in the process as much as the result. The other, John C. Bogle's previous book, was for people who just wanted the best possible long-term investment return with the least effort. Now that I've had a chance to read Bogle's new book, I can confidently start recommending this one instead. In fact, I'll start recommending it to both kinds of investors.

As the title claims, it is quite a little book--you can read it in an afternoon. Its compactness comes in large part from the simplicity of its message:

1. For maximum return, invest mostly in stocks. Bogle does recommend including bonds in your portfolio, initially as a small percentage that grows as you approach retirement, but you cannot expect much in the way of long-term growth from the bond portion of your portfolio.
2. Invest for the long-term. Bogle points out that the time horizon for an investment shouldn't be calculated just to until the investor expects to retire, but rather to until he expects to die--at least 50 years for a young investor, and quite possibly 20 years or more, even for someone who has already retired
3. Invest in index funds

The virtues of index funds are a focus of the book; the main ones are:

1. The whole return of the equity market. Since mutual funds are such a large part of the entire market, they are by and large buying from and selling to one another. The upshot of that is that a profit for any one fund is almost by necessity a loss to some other fund. Buying an index fund let's you avoid all that.
2. Low expenses. The costs of management and the expenses of trading come directly out of the fund's assets. If you keep trading to an absolute minimum, you avoid trading costs. And, if you're not trading, you scarcely need any management.
3. Tax efficiency. If your fund trades, you owe taxes on the capital gains each year. An index fund, since it scarcely trades, postpones the tax bill, potentially forever. (If you die still owning the stock, your heirs need not pay the capital gains taxes.)

There's a discussion of bond funds, to which the same discussion applies, only more so, as the opportunities for great management producing higher returns are limited in a bond fund, and the expenses eat away all the more fiercely at a generally smaller return.

After minimizing your costs (by buying index funds), the next most important determinant of total return is the asset allocation. This area is one I find interesting, and Bogle gives it only a very brief mention. Brief as it is, though, it covers the topic adequtely for anyone who is just trying to make a good return without having to spend a lot of time thinking about their investments.

There's discussion of the issue of "fun" investing--the sort of investing where the investor makes decisions because he or she wants to feel involved. Bogle admits that there's a roll for that, if only to teach yourself by first-hand experience that just buying the whole market through an index fund is a winning strategy.

I used to recommend Bogle's earlier book Bogle on Mutual Funds: New Perspectives for the Intelligent Investor, which remains an excellent choice. The main difference between that book and this (besides some updating) is that this book drops a lot of the earlier book's advocacy of reform in the mutual fund industry. I'm not sure how much of the change is because the battle has, to some extent, been won (low-cost index funds are now readily available) and how much is because Bogle has written another book on that topic in particular. Either way, the change is a good one: The Little Book of Common Sense Investing covers one important topic in a brief but comprehensive way.