News & Commentary

Malkiel and Ellis: Five lessons every investor should know 25 Jun 10

In a recent video interview, Burton Malkiel author of Random Walk Down Wall Street and Charles Ellis author of Winning the Loser's Game share their five most important investment lessons. This is an edited extract of what they had to say.

1. Start with saving
Malkiel cannot understand why more Americans do not contribute to superannuation (called 401 (k) plans in the United States) especially when many employers match employee contributions dollar for dollar.

Ellis agrees that saving in a disciplined way is the key. “Doing it through your employer, deducting it before you even see it, is far and away the best way to do it, and you should do the maximum,” he says.  

2. Choose the right mix
Ellis believes asset allocation is “the most important thing you can do in investing. It’s the division between stocks, bonds and cash. It is the architecture; it’s the main structure.”

Malkiel says while it’s important to get your asset allocation right at the outset it is also important to periodically rebalance your portfolio.

3. Spread your risk broadly
On diversification Malkiel says: “when you have, in your portfolio, a couple of asset classes where one zigs, the other zags, when one’s down, the other’s up, that kind of diversification tends to reduce the risk of the portfolio and give you a much more even ride over time than if you were simply in one asset class rather than the other.”

4. Cut your costs
Ellis believes investment costs are probably one of the least discussed and most important topics in investing. He says investors need to look at the fees they pay as a fraction of the investment returns they earn, and be wary of how higher taxes as a result of short-term gains and high turnover can impact their portfolios.

“Any tax is a removal from your portfolio. So, to the extent you can reduce transactions to a minimum, you can reduce the taxes that you have to pay, and you will reduce the rate at which taxes are charged from ordinary income to capital gains. And if you can do that at the same time that you’re reducing the cost that you’re paying for the investment results that you’re getting, you’ve got two major forces at work on your behalf.”

5. Steer clear of blunders
Ellis believes one of the major mistakes investors make is to not start saving early enough. Another is that they don’t participate in their employer’s superannuation plan. The third is when they sell out of the market during downturns and crystallise losses rather than staying the course.  

Malkiel believes investors’ ignorance of costs is a mistake. “I’ve studied it all my life, but the only thing I’m absolutely sure about is, that the lower the expenses that I pay to the purveyor of the investment product, the more there will be for me.”

Another big mistake according to Malkiel is a behavioural one. He says many investors believe they can time the market and invest when they are optimistic rather than making regular investments over time.  

You can read more about the investment philosophies of Malkiel and Ellis in their recently released book:  The Elements of Investing.

Watch the full video interview here.