How and where to invest your money

This article has been written by Andrew Hallam, the author of Millionaire Teacher—The Nine Rules of Wealth You Should Have Learned in School (available on Amazon.co.uk).

Millionaire teacher shares his secrets

If you haven’t figured this out by now, let me share one of the most important things everybody should know:

The world is full of people who would sell you toe nail clippings and magic cat dung…if they could get away with it.

Andrew HallamUnfortunately, the financial service industry breeds more of those opportunists than any other sales field.  And they can skillfully disguise feline faeces to look (and smell) sweeter than a bouquet of spring flowers.

As a young investor, you can’t afford to put some of these products on your dinner plate — not if you eventually want to grow wealthy.  I’m a high school personal finance teacher who built a million dollar investment portfolio by the time I was 38 years old.

I published a book called Millionaire Teacher – The Nine Rules of Wealth You Should Have Learned in School. It hit #1 on Amazon USA for personal finance books in November 2011, #1 in Canada in February 2012, and now I want to boil down the essential elements for a young British audience.

If you just read this with scepticism, good!  That’s what I want.  Be sceptical of nearly everything people tell you, when they’re giving financial advice.  Find academic studies that might refute it.  Only then will you be educated enough to make a financial decision.  Don’t listen to a salesperson or financial advisor who refutes or supports certain advice.  Find an academic study, something truly impartial.

What should you invest in?

For starters, if you’re going to invest, buy assets that appreciate over time.  Cars lose their value each year, so it’s best to spend small amounts on depreciating assets (like cars) and more on assets that increase in value.  I’ve seen the advertisements for Forex trading, especially targeting young people with grand promises.  But remember this:  for every dollar that’s made, there’s a dollar that’s lost.  Always.

Rising investment chartUnlike stocks, bonds and real estate, currencies (as a group) don’t rise in value.  When you trade a currency, there’s another person on the other end of that trade.  Do you really want to gamble with them?

The only sure winner is the investment bank that makes money on the commission spreads from the sale and purchase.  These products are pushed for that reason.  They create excitement (usually for the naïve) and reap tremendous benefits for the large brokerages doing the transactions.

Investors are better off buying assets that appreciate over time — rather than wasting time and money trading currencies.  If two people trade a currency (forex) back and forth for twenty years, the winner will win by an equal proportion to the amount lost by the loser.  The odds are, also, that the winner wouldn’t win by much, if they each played the game for twenty years.

If you and I traded a stock market tracking fund or a London flat back and forth for twenty years, we would both benefit from the rising value of the stock market (plus dividends) or the rising value of the flat.  We’d likely be better off holding those assets, rather than trading them, but my point is this:  the overall stock and bond markets increase in value over time, as do real estate prices.

Forex trading doesn’t offer that.  It gives low odds of success (like a night at Blackpool) and you won’t find Warren Buffett, nor a college endowment fund manager, nor an economic Nobel prize winner suggesting Forex trading as a sensible investment method.  It makes money for the house, but not for the players, as an aggregate.

What would Warren Buffett suggest?

Buffett, consistently one of the wealthiest people in the world, isn’t a fan of the financial service industry.  He often jokes about a fantasy he has, where a bunch of brokers get trapped on a deserted island with no escape.  Many investors buy actively managed unit trusts, but the firms that create them have one goal:  to make money for themselves.

Warren Buffett

So how do you increase your odds of investment success?

If you think that Warren Buffett and a slew of Economic Nobel Prize winners offer valuable advice (these guys aren’t selling products) then you’ll be keen to build a diversified, low-cost portfolio of tracker funds.

In the U.S., these are called index funds.  They’re extremely low-cost unit trusts that beat more than 90% of professional investors over twenty year study periods, after all fees, attrition, and taxes.  Investment advisers and brokers hate these products, and they’ll usually do everything they can to deter you from buying them.  Brokers, after all, make more money for themselves when selling you litter box products instead.  Portfolios of actively managed unit trusts (and their hidden fees) are generally a bad deal for investors.

Choose Index Tracker funds

Allan S. Roth, adjunct professor at the University of Denver, ran a Monte Carlo simulation to determine the likelihood that an account of actively managed unit trusts would beat an account of index tracker funds.  After all, a responsible portfolio would have more than one tracker fund within it:  it would likely have at least a British stock market tracker fund, a bond market tracker fund, and an international stock market tracker fund.

Roth determined that, if you had five actively managed unit trusts over a 25 year period, your odds of beating a portfolio of index tracker funds would be just 3%.

If you had ten actively managed mutual funds over a 25 year period, your odds of beating a portfolio of index tracker funds would be just 1%.

You won’t find academically supported evidence to refute those findings.  For the best odds of investment success, index tracker funds are the right choice.  Investing is about putting the odds in your favour.

Five Years Ten Years Twenty Five Years
One Active Fund 30% 23% 12%
Five Active Funds 18% 11% 3%
Ten Active Funds 9% 6% 1

Pick the right fund when investing

But not all tracker funds are created equally.  Some of them can be pretty expensive.  In Richard Branson’s autobiography, Losing My Virginity, he said that:

“After Virgin entered the financial services industry, I can immodestly say it was never to be the same again.  We cut all commissions; we offered good value products; and we were practically trampled by investors in their rush to buy.”

The great funds that Branson touted were Virgin’s index tracker funds.  But they’re too expensive.  Branson’s intentions might have been good, but HSBC offers the same products at a fraction of the cost.  And in the world of money, small costs add up.

Check out what a 1% difference can make over an investment lifetime:

£1,000 compounding at 7 percent interest for 50 years=  £29,457

£1,000 compounding at 8 percent interest for 50 years=  £46,901

If you’re twenty years old, you could realistically have money working for you until the day you die.  Sure, you’ll be selling some of it to cover living costs as you retire, but you don’t want costs to anchor your money over a lifetime.

The best UK tracker funds

I think the most convenient UK tracker funds are offered through HSBC.  In a 2008 study titled “Mutual Fund Fees Around the World” (published by Oxford University Press) researchers Ajay Khorana, Henri Servaes and Peter Tufano found that the UK’s stock market unit trusts cost investors an average of 2.28% a year, including sales costs and hidden expense fees.

HSBC bankA portfolio of HSBC’s tracker funds, in contrast, would cost you roughly 0.29% annually.  Virgin’s tracker funds cost more than three times as much.

When it comes to unit trusts, the lower the fees, the better.

As the global unit trust research firm, Morningstar reveals, low costs are the only reliable predictor of future performance.  Don’t fall for unit trusts with great historical returns.  The odds of them repeating that performance aren’t great.

Create a diversified portfolio of low-cost tracker funds, and you’ll beat more than 90 percent of investment professionals over your lifetime—without any work.  Don’t forget that a portfolio is not a single tracker fund – it’s a diversified basket of them.  This is the gem that most professionals will never be able to beat.

For further information on the topic of investing your money, read my book and I also recommend the following books.

And don’t let anyone lure you into the litter box.

Leave a comment



14 Responses to “How and where to invest your money”

  1. stephanie

    02. Feb, 2013

    hey im stephanie im 22..23 in May with an 18 month daughter.. single, living with parents for now so no bills. Im struggling to just get started, i find myself procrastinating in not knowing where to start. I have informed myself and would like to use Vanguard Index 500 fund.. do i need to diversify further and also what other should i look into.. do I jut contact vanguard to start or do i need to go through a brokerage service. What or where would you advise I invest in?would like to start investing and would appreciate all feedback and guidance. Thank You and God Bless

    Reply
  2. Mark

    22. Aug, 2012

    Hi Owen

    Thanks for the info; I’ll definitely check out H&L. Do you know if the platform fee is per fund or for your portfolio?

    Cheers

    Mark

    Reply
    • Owen Burek

      22. Aug, 2012

      It’s currently £2 per month per fund (though not all funds. mostly on index funds as they don’t get a kickback!).

      Reply
  3. Mark

    18. Aug, 2012

    Now guys, I know I am thinking out loud so feel free to ignore me if I am starting to ramble or just testing your patience!

    I am now thinking that a 3 fund portfolio where I invest in only one fund per month ( to minimise the transaction costs) wouild be the cheapest and most effective way of starting a portfolio. What do you think? Is this better than just investing quarterly? Am I over thinking things? What should I add to my UK stock ETFs and UK bond ETF? Should I go with the low cost S&P 500 or diversify more and purchase a global stock ETF?

    Cheers

    Mark

    Reply
    • Owen Burek

      21. Aug, 2012

      Hi Mark

      I spoke with Hargreaves & Lansdown who say there are no extra transaction costs involved for paying monthly with the Lifestrategy fund, it’s all on %s. See below:

      “I can confirm that the charges for the Vanguard Lifestrategy 80% Equity are as follows:

      Fund Managers initial charge – 0.24%
      Total Expense Ratio – 0.32%
      Platform Fee – £2 per month

      These are all the charges that would be levied upon the holding within your Vantage Fund and Share Account. There are no additional charges levied on your account with each deposit made.

      With regards to making your investment instructions on a quarterly basis rather than monthly, this would not make a difference to the charges as they are on a percentage basis. However, if you chose to invest quarterly, this would have to be instructed manually unlike your current Regular Savings which is automatically completed for you. ”

      Overall I think the fewer funds the better, though it’s good to have a balance. That’s why I went with the Lifestrat because it handles that aspect for you and makes managing things much easier then and takes out the worry of making the wrong/bad decision!

      Reply
  4. Mark

    18. Aug, 2012

    Hi Owen

    My reply to you has inserted itself in the middle of the comments above for some reason!

    Cheers

    Mark

    Reply
  5. Mark

    16. Aug, 2012

    Hi Andrew

    Having done some maths on this, perhaps it is not so good after all! I feel confident I can minimise the ‘running costs’ of a fund now by chosing a suitable ETF with a low TER but fell less confident about the ‘transaction costs’.

    It seems if you are starting out like I am (I’ve enjoyed the benefit of being part of the teachers’ pension scheme here in the UK) you have to pay a relatively high percentage in terms of transaction costs even at a discount broker.

    I could minimise the annual fee to the broker by purchasing just a FTSE 100 index (65%) and UK bond index (35%) and do this quarterly. This would mean I only pay £12 a year. I know you talk about fostering a saving habit and avoiding yearly dealings but this seems like a possible compromise. What do you think?

    Hi Owen

    Thanks for the advice, I’ll take a look at those as well.

    Cheers

    Mark

    Reply
    • Owen Burek

      16. Aug, 2012

      Is it therefore more expensive to invest new funds monthly rather than quarterly or even yearly, with regards to transaction fees?

      Reply
  6. Mark

    15. Aug, 2012

    I cannot see anyone recommending Vanguard ETFs online – a low cost favourite of yours. Perhaps they are new to the UK market as I seem to be able to purchase them from the discount broker http://www.iii.co.uk. Do these beat the HSBC ETFs you mention here or am I missing something?

    Reply
    • Andrew Hallam

      15. Aug, 2012

      Hi Mark,

      The Vanguard ETFs are superb. You will need a brokerage account, and will have to pay a commission per trade. You will also have to initiate each purchase, rather than have it occur automatically. But Vanguard ETFs are excellent options. Just look at the commissions and ensure that it’s still worth it for you. If you’re going to be investing small regular amounts, the commissions could eat away at your deposits…a little more than you’d like them to.

      Cheers,
      Andrew

      Reply
      • Owen Burek

        16. Aug, 2012

        Great advice. As well as the HSBC index tracker Andrew mentioned in the article, I’ve also recently opted for Vanguard LifeStrategy funds which seem like a good solid choice for growth over the long term. Plus it saves me on commission (and time) investing in the separate components which make up the fund.

        Reply
      • Mark

        16. Aug, 2012

        Hi Andrew

        I have just read your book and am about to take up my first international teaching post so thank you very much for your superb advice!

        It looks like I can purchase the Vanguard ETFs (UK, USA, World Wide, and Bonds) from an online discount broker at £1.50 per purchase per ETF. If I invest £452 per month (£98 each towards UK, USA & World indices and £158 towards UK Bond index for a 65% share and 35% Bond split (I’m nearly 35) then I will only pay £72 a year + the TERs on the funds. This sounds pretty good to me based on my novice knowledge from your book! Are there any other costs I should be looking at or for?

        Cheers

        Mark

        Reply
      • Mark

        16. Aug, 2012

        Hi Owen

        As far as I can work out, unless you have a large investment fund, you have to use a broker to invest in these indices. I believe Vanguard’s minimum investment is £100,000 if you go directly to them. It goes with out saying the brokers are going to charge you for their services; it is these costs I am trying to minimise but at the same time still maintain a diversified portfolio.

        Using a discount broker and the passive ETFs linked to whole markets seems to minimise the ‘running/trailing costs’ of each index. However, there seems to be no way around the ‘transaction costs’ you are charged each month as you build up your investments in your portfolio.

        It seems to be a balance between costs and risk. If you invest less frequently the greater chance you have of being hit by market fluctuations, and of course, your money has less time to grow.

        If I invest in the four funds I mentioned on a monthly basis my personal costs seem to be appoximately 1.5% per year but if I reduce to two as mentioned above it falls to about 0.35%.

        I am VERY new to this and could be way off so hopefully Andrew will be able to give us some feedback.

        If I am starting to take advantage of your goodwill please tell me Andrew!

        Cheers

        Mark

        Reply
  7. RobberBaron

    04. Apr, 2012

    Hi Andrew, great info here.
    I would point out that for those interested in tracking the FTSE 100 but not an HSBC customer, the HSBC FTSE100 Index ETF is available through most commercial trading accounts under tags such as HUKX.L and HUKX.SW (trading on the London and Zurich stock exchanges, respectively). Most brokers can buy these for you (though not all access all markets). The Annual Report Expense Ratio (net) of 0.35% (as listed in Morningstar) is fairly low, though HSBC’s page shows 0.2%5. iShares offers a similar product at 0.40%, listed on numerous markets. It’s always best to get lower fees, but be careful – index ETFs are not exactly the same – read ‘Beware of ETF doppelgängers’ (MoneyWeek) http://www.moneyweek.com/investments/beware-of-etf-doppelgngers

    Reply

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