The Little Book of Common Sense Investing in English

Acknowledgments IN WRITING THIS BOOK, I have received incredibly wonderful support from the entire (three-person) staff of Bogle Financial Markets Research Center, the Vanguard- supported unit that began its formal activities at the beginning of 2000.

Chapter Eighteen What Should I Do Now? - Funny Money, Serious Money, and Investment Strategy DEEP DOWN, I REMAIN absolutely confident that the vast majority of American families will be well served by owning their equity holdings in an all-U.S.

Chapter Seventeen “The Relentless Rules of Humble Arithmetic” - Reprise IF THE MESSAGE IN this book comes across as confident, please understand that it is little more than common sense. Even more, please understand that my confidence in the index fund is buttressed by the conclusions of many of the smartest, most experienced, most successful in- vestors in the United States including Warren Buffett, Charlie Munger, and Benjamin Graham, along with top academics and endowment managers—Nobel Laureates Paul Samuelson, William Sharpe, and Daniel Kahneman and Princeton’s Burton Malkiel, Yale’s David Swensen, Harvard’s Jack Meyer, and MIT’s Andrew Lo.

Chapter Sixteen What Would Benjamin Graham Have Thought about Indexing? - A Confirmation from Mr. Buffett THE FIRST EDITION OF The Intelligent Investor was pub- lished in 1949. It was written by Benjamin Graham, the most respected money manager of the era, and coauthor (with David Dodd) of Security Analysis, a scholarly tome originally published in 1934.

Chapter Fifteen The Exchange Traded Fund - A Trader to the Cause EVEN BEFORE THE RISE of the so-called new paradigm of fundamental indexing described in Chapter 14, traditional indexing was being challenged by a sort of wolf-in-sheep’s clothing, the exchange traded fund (ETF).

Chapter Fourteen Index Funds That Promise to Beat the Market - The New Paradigm? SINCE THE INCEPTION OF the first index mutual fund in 1975, indexing—investing in passively managed, broadly diversified, low-cost, stock and bond index funds—has proved to be both a remarkable artistic success and a re- markable commercial success.

Chapter Thirteen Bond Funds and Money Market Funds - Where Those Relentless Rules Are Even More Powerful SO FAR, MY DISCUSSION of the index fund (and its hand- maiden, low investment costs) has related to the stock market and to equity mutual funds.

Chapter Twelve Profit from the Majesty of Simplicity - Hold Index Funds That Own the Entire Stock Market. IF LOW COSTS ARE GOOD (and I don’t think a single an- alyst, academic, or industry expert would disagree that low costs are good), why wouldn’t it be logical to focus on the lowest-cost funds of all—index funds that own the en- tire stock market?

Chapter Eleven ¸ Focus on the Lowest- Cost Funds - The More the Managers Take, the Less the Investors Make. WHAT LESSONS HAVE YOU learned in Chapters 8 through 10? Selecting equity funds based on long-term past performance hasn’t been the answer.

Chapter Ten Seeking Advice to Select Funds? - Look beforeYou Leap. THE EVIDENCE PRESENTED in Chapters 8 and 9 teaches two lessons: (1) Selecting winning equity funds over the long term bears all the potential success of looking for the needle in the haystack; and (2) Selecting winning funds based on their performance over relatively short- term periods in the past is all too likely to lead, if not to disaster, at least to disappointment.

Chapter Nine Yesterday’s Winners, Tomorrow’s Losers - Fooled by Randomness* IN SELECTING MUTUAL FUNDS, most fund investors seem to rely, not on sustained performance over the long term, but on exciting performance over the short term. (Exhibits 5.2 and 5.3 in Chapter 5 reinforce this point.)

Chapter Eight Selecting Long-Term Winners - Don’t Look for the Needle— Buy the Haystack. SELECTING WINNING FUNDS in advance is more diffi- cult than it looks. Sure, there are always some winners that survive over the years. And if we pore over records of past performance, it is easy to find them.

Chapter Seven When the Good Times No Longer Roll - What Happens If Future Returns Are Lower? REMEMBER THE UNFAILING principle described in Chapter 2: in the long run it is the reality of business—the dividend yields and earnings growth of corporations—that drives the returns generated by the stock market. How- ever, I must warn you that during the past 25 years—the period examined in the three preceding chapters—the 12.5 percent nominal annual return provided by the U.S. stock market included a speculative return of nearly 3 percent per year, far above the business reality

Chapter Six Taxes Are Costs, Too - Don’t Pay Uncle Sam Any More Than You Should. WE STILL AREN’T THROUGH with these relentless rules of humble arithmetic—the logical, inevitable, and unyield- ing long-term penalties assessed against stock market par- ticipants by investment expenses and the powerful impact of inflation—that have slashed the capital accumulated by mutual fund investors.

Chapter Five The Grand Illusion - Surprise! The Returns Reported by Mutual Funds Aren’t Actually Earned by Mutual Fund Investors. IT IS GRATIFYING THAT industry insiders such as the In- vestment Company Institute’s (ICI’s) chairman Jon Fossel, Fidelity’s Peter Lynch, Mad Money’s James Cramer, and AQR’s Clifford Asness agree with me about the inevitable inadequacy of returns earned by the typical equity mutual fund relative to the returns available simply by owning the stock market through an index fund based on the S&P 500.

Chapter Four How Most Investors Turn a Winner’s Game Into a Loser’s Game - “The Relentless Rules of Humble Arithmetic” BEFORE WE TURN TO the success of indexing as an invest- ment strategy, let’s explore in a bit more depth just why it is that investors as a group fail to earn the returns that our corporations generate through their dividends and earnings growth, ultimately reflected in the prices of their stocks.

Chapter Three Cast Your Lot With Business - Rely on Occam’s Razor to Win by Keeping It Simple. SO HOW DO YOU cast your lot with business? Simply by buying a portfolio that owns the shares of every business in the United States and then holding it forever.

Chapter Two Rational Exuberance - Business Reality Trumps Market Expectations. THAT WONDERFUL PARABLE ABOUT the Gotrocks family in Chapter 1 brings home the central reality of investing: “The most that owners in the aggregate can earn between now and Judgment Day is what their business in the aggre- gate earns,” in the words of Warren Buffett.

Chapter One A Parable - The Gotrocks Family EVEN BEFORE YOU THINK about “index funds”— in their most basic form, mutual funds that simply buy all the stocks in the U.S.

Introduction - Don’t Allow a Winner’s Game to Become a Loser’s Game. SUCCESSFUL INVESTING IS ALL about common sense. As the Oracle has said, it is simple, but it is not easy.