The Five-Step Market-Beating Formula for Successful Investing
by Dr. Mark Skousen, Contributing Editor
Thursday, July 29, 2010: Issue #1312
If you want sound, classic investment advice, you’ve come to right place.
The lessons you’re about to learn are timeless and straightforward… but sadly, hardly ever followed.
What’s more, the financial crisis has actually substantiated this man’s classic formula for successful investing.
The formula I’m talking about comes from Burt Malkiel, finance professor at Princeton and author of the classic, A Random Walk Down Wall Street. You may recall that Alexander Green recapped his FreedomFest debate with Burton Malkiel on July 12…
As host of the annual FreedomFest event in Las Vegas, I’d invited Malkiel to participate in two sessions. One was at a luncheon, with his excellent speech, entitled: “My 40 Years Walk Down Wall Street: Timeless Lessons.” I highly recommend you get a copy for only $5 (call: 866.254.2057 for details on how to order the CD).
Malkiel’s other speech was entitled, “Can You Beat the Market?” This was what Alex talked about in his column here a few weeks ago. And with good reason – as Malkiel’s five rules illustrate…
Five Simple Steps to Beat the Market
Here’s Burt Malkiel’s five-step market-beating formula:
- There’s No Need to Time the Market: Plain and simple, buying and selling in the short run doesn’t work over the long term. We talk about this frequently in Investment U. In order to make market timing work, you have to be right most of the time when you buy and sell. The vast majority of investors can’t do that consistently. And besides, you don’t need to time the market to be successful.
- Use Dollar-Cost Averaging: Malkiel showed that dollar-cost averaging actually does better in a volatile market (like now) than in a steadily rising one. He cited an example: If you invested $1,000 a year for five years, you’d have $6,167 in a volatile (bear-bull) market versus only $5,915 in a steadily rising market.
- Rebalance Your Portfolio Annually: Malkiel found that from January 1996 until December 2009, annual rebalancing between a stock and bond index provided lower volatility and higher returns. The best strategy is to sell your portfolio’s big winners and buy its biggest losers once a year.
- Diversify, Diversify, Diversify: It sounds obvious, but diversification is crucial. Malkiel argues that simple diversification increases your returns with less risk (volatility). He uses the following extremely conservative portfolio: 50% bond fund, 25% stock index fund and 25% international stock index fund.
- Cost Matters: The vast majority of actively managed accounts underperform the market indexes over the long run, especially because they cost more to run. So use non-actively managed index funds by the cheapest fund company – Vanguard.
Turn $100,000 into $250,000 in 10 Years
Putting all the parts of Malkiel’s formula together – index funds, dollar-cost averaging, rebalancing and diversification – he revealed the following chart to illustrate how a conservative investor would fare during the “lost decade” (2000-2010) when the stock market fell.
So let’s say you started with a $100,000 portfolio in January 2000.
You allocate your assets in the following way: 50% in a bond index, 25% in a U.S. stock index and 25% in an international stock index.
If you added $1,000 per month over the 10 years, you’d have invested a total of $220,000. With annual rebalancing and diversifying, you’d have a portfolio valued at $250,000 in 10 years.
Thus, by dollar cost averaging, rebalancing and diversifying, you’re ahead of the game in the “lost decade” when the overall stock market declined.
Now imagine how much better you’d do if you added an emerging markets index fund and gold to your portfolio. That’s exactly what Alex does in his Gone Fishin’ Portfolio.
Good trading – AEIOU,
Mark Skousen
- Dollar Cost Averaging
- Building Wealth: Using The Dollar Cost Averaging Strategy
- What to Do When Interest Rates Rise
6 Responses to “The Five-Step Market-Beating Formula for Successful Investing”
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July 29th, 2010 at 1:28 pm
A relevant and timely reminder of the advantages of the ‘gone fishin’ portfolio and re-balancing.
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July 29th, 2010 at 2:40 pm
$1000/ mo. x 12 mos. = $12000 x 10 yrs = $120,000 invested Appears Mark is $100,000 high
“If you added $1,000 per month over the 10 years, you’d have invested a total of $220,000. With annual rebalancing and diversifying, you’d have a portfolio valued at $250,000 in 10 years.”
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July 29th, 2010 at 3:17 pm
Your boasting about turning an investment of $100,000 with an additional $120,000 (total of $220,000) into $250,000 over 10 year period?
And you’re comparing it to simply investing $100,000 into the S&P with no further additions?
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July 29th, 2010 at 3:22 pm
I have subscribed in the past and concluded that dollar cost averaging is a practice that is no longer wise. Likewise, buy and hold is unwise, and trailing stops are for beginners. Prudent investors do extensive research and employ stochastics in determining entry and exit points on chosen investments. Also, there are many more gains attained using option strategies.
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July 29th, 2010 at 3:32 pm
By the way, if you add $1000 per month to the S&P 500 over that 10 year period, you end up with $192,068.
The diversified portfolio is better (it doesn’t lose), but as a 10 year investment – it’s inadequate.
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July 31st, 2010 at 6:31 pm
Unless the S&P index shown also had a $1,000/month additional investment, which isn’t clear, the comparison appears flawed.
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