Investing in actively managed funds is a bad idea

Investing in actively managed funds is a bad idea: they only eat up your hard-earned money, while financial mediators make a fortune. Make more of your money by investing in an index fund.

Actively managed funds are expensive and consequently often underperform the market.

Few funds perform well, and there’s no guarantee even those few will continue to do so.

Investors often underestimate the true cost of actively managed funds. Put the majority of your assets in safe, low-cost index funds.

Each index fund comprises an expense ratio that represents management fees and operating expenses. These expenses, though typically totalling less than one percent, can add up in a long-term investment.

Actionable advice: Invest the majority of your assets in an index fund, and if you want to gamble with some of your hard-earned money, then place a small amount in actively managed funds. If, despite what you’ve read you still want to partake in the thrill of risking some money and making fast profits in actively managed funds, bet on no more than 5 percent. You can afford to risk this small amount but absolutely keep the majority of your assets in a safe long-term investment.

The costs of investing in such a fund are very high. As an investor, you’d pay the brokerage commissions, the fund manager’s fees and so forth. All those fees add up to a hefty chunk of your expected profits.

If the funds perform extremely well, you might not mind those costs, but in the long run, actively managed funds are likely to yield you less profit than the overall stock market.

An actively managed fund will generate significantly less profit for you than a passive, low-cost index fund that merely mimics the performance of the overall market. In fact, if you had invested $10,000 in 1980, by 2005 you would walk away with 70 percent less if you invested in an active fund rather than an index fund, due to fees alone!

Investors pay huge fees to funds, deferring to financial experts who have a solid understanding of the stock market. However, despite industry knowledge or expertise, only 24 of the 355 mutual funds that existed in 1970 have outperformed the market consistently and remain in business.

Actively managed funds automatically come with high costs. However, fund managers rarely disclose the dollar amount. Instead, they boast about the high returns but forget to divulge what the investor will really earn after deducting all the performance and portfolio fees.

Surprisingly, that omission occurs often: 198 of the 200 most successful funds in the latter years of the 1990s reported higher returns than the investors actually earned!

Don’t let what you now know about actively managed funds persuade you to keep all your money under your bed. The index fund is your best alternative.

In contrast to actively managed funds, index funds are much more cost-efficient.

By definition, an index fund holds a diversified portfolio that reflects the financial market or a specific market sector. However, instead of betting on the market, index funds hold their portfolios indefinitely, eliminating the risks of making short-term, volatile bets while simultaneously minimizing operating costs.

Because index funds track the performance of all stocks included in the index without betting on individual stocks, they’re also called passive funds.

Since they simply hold shares across particular market sectors, you will not have to bear operating fees for buying and selling shares, financial consultants, or fund management. You will, however, reap the benefits of commercial net returns.

Another advantage to index funds is that they’re likely to outperform actively managed funds in the long-term.

For instance, many Vanguard index funds fees are less than 0.06% per annum. Both funds have expenses below 1 percent, but over longer investment periods like a decade, those tenths of a penny add up.

Since index funds fluctuations follow the overall market, go ahead and choose the fund with the lowest cost structure, knowing that a company’s expense ratio doesn’t equate with its level of performance.

The truth about preparing for retirement

I’m amazed by the proliferation of articles and content on methods to make big money online. On forums, ordinary men try to give advice on which broker to use, which product to buy.

The truth is simpler. People simply want to earn commissions on your investment. The more you trade, the more they earn. The more you buy into mutual funds, the more fees you pay to agents. Investments should be boring. Put your money in a globally diversified fund and leave it there. Do not move money. Companies layer fees when you try to move money.

Start young, have a long investment horizon. Go for globally diversified passive funds. I like ETFs in Singapore because we cannot buy Vanguard funds direct yet.

Avoid actively management funds. I wrote a few articles consolidating evidences on why active managed funds don’t work.

Also read vanguard’s studies. See the truth about active funds here. Don’t trade actively. Don’t invest in active funds. You are simply funding the high salaries of managers. More than 80% don’t even beat the benchmark market returns.

There are only 3 simple steps to investing:

1. Save monthly, 20 to 30% is a good figure.
2. Invest the money in index passive funds.
3. Leave it. Don’t touch the pot of gold.

Run away from people who are trying to sell you active investments. Don’t even talk to people who want you to believe trading leisurely will make you rich. Let your money work for you. Leave your money in a passive fund.

Investing like an idiot, but earning like a Pro

Investing in low fees index funds is the only way to retire in peace. Morningstar found after years of research: low fees are “the most proven predictor of future fund returns.” In other words, the cheaper the costs, the better the fund is likely to perform and the more money you’re likely to make.

Passive funds are the cheapest because there is no active management. No fund manager is trying to outperform the market. In a recent article on FT, it is said that 86% of funds do not outperform the market. The average fee charged by active funds hovers around 2.5% comprising all the load charges and management fees. For index funds, it can go as low as 0.5%. I have a list of evidences here.

What kind of index funds should you choose? You can buy index funds from investment intermediaries. I suggest choosing a simple monthly plan where you can simply put money into an index fund and save with consistency.

There are a few types of products out there with local banks in Singapore. Choose those with minimal fees. I would avoid going through other platforms with higher fees.

If you are savvy, you can also buy ETFs (traded index funds) through brokers. But the list of ETFs on the Singapore market is not too exhaustive. So you can buy through U.S brokers only. I prefer Lightspeed and TD Ameritrade simply because of their low fees.

The principle behind investing is:

1.Low fees or no fees

2.Avoid intermediaries

3.Avoid trading too much, just rebalance yearly. A 60% global equity index fund (I really like the plain old vanilla Vanguard fund) and a 40% bond fund will be sufficient.

Non discretionary investing- the future of retirement planning

Investing in actively managed funds is a bad idea: they only eat up your hard-earned money, while financial mediators make a fortune. Make more of your money by investing in an index fund.

Actively managed funds are expensive and consequently often underperform the market.

The costs of investing in such a fund are very high. As an investor, you’d pay the brokerage commissions, the fund manager’s fees and so forth. All those fees add up to a hefty chunk of your expected profits.

If the funds perform extremely well, you might not mind those costs, but in the long run, actively managed funds are likely to yield you less profit than the overall stock market.

An actively managed fund will generate significantly less profit for you than a passive, low-cost index fund that merely mimics the performance of the overall market. In fact, if you had invested $10,000 in 1980, by 2005 you would walk away with 70 percent less if you invested in an active fund rather than an index fund, due to fees alone!

Few funds perform well, and there’s no guarantee even those few will continue to do so.
Investors pay huge fees to funds, deferring to financial experts who have a solid understanding of the stock market. However, despite industry knowledge or expertise, only 24 of the 355 mutual funds that existed in 1970 have outperformed the market consistently and remain in business.

Investors often underestimate the true cost of actively managed funds.
Actively managed funds automatically come with high costs. However, fund managers rarely disclose the dollar amount. Instead, they boast about the high returns but forget to divulge what the investor will really earn after deducting all the performance and portfolio fees.

Surprisingly, that omission occurs often: 198 of the 200 most successful funds in the latter years of the 1990s reported higher returns than the investors actually earned!

Put the majority of your assets in safe, low-cost index funds.
Don’t let what you now know about actively managed funds persuade you to keep all your money under your bed. The index fund is your best alternative.

In contrast to actively managed funds, index funds are much more cost-efficient.

By definition, an index fund holds a diversified portfolio that reflects the financial market or a specific market sector. However, instead of betting on the market, index funds hold their portfolios indefinitely, eliminating the risks of making short-term, volatile bets while simultaneously minimizing operating costs.

Because index funds track the performance of all stocks included in the index without betting on individual stocks, they’re also called passive funds.

Since they simply hold shares across particular market sectors, you will not have to bear operating fees for buying and selling shares, financial consultants, or fund management. You will, however, reap the benefits of commercial net returns.

Another advantage to index funds is that they’re likely to outperform actively managed funds in the long-term.

Each index fund comprises an expense ratio that represents management fees and operating expenses. These expenses, though typically totaling less than one percent, can add up in a long-term investment.

For instance, the Vanguard 500 ETF fund has an annual expense ratio of 0.05%, while the Aberdeen Asia-Pacific Income has an expense ratio of 1.14%. The cost differences add up over time.

Since index funds fluctuations follow the overall market, go ahead and choose the fund with the lowest cost structure.

Actionable advice: Invest the majority of your assets in an index fund, and if you want to gamble with some of your hard-earned money, then place a small amount in actively managed funds. If, despite what you’ve read you still want to partake in the thrill of risking some money and making fast profits in actively managed funds, bet on no more than 5%. You can afford to risk this small amount but absolutely keep the majority of your assets in a safe long-term investment.

Credit rating agencies may not always add sufficient value when assessing debt

Everyone accepts credit rating agencies’ accept of a debt issue as a professional opinion on

1. Likelihood of receiving the coupon and the principle
2. Likelihood of receiving them on the stipulated time
3. … in accordance to the debt conditions

These agencies also help sort out rating categories, giving you a relative understanding of debt against another debt issue.

However, you will only see a rating – A, AA, AAA. You will never see headlines reporting quantitative risk measures. So it is hard to understand the difference between AAA and B. An economist will use broader categories to differentiate between the investment grade bond and the rest. So ratings don’t add a lot of value.

There are quite few instances when credit agencies failed to evaluate correctly. For example, in March 2008, Moody’s Investors Services and Standard & Poor’s announced the downgrading of the ratings of the renowned investment bank Bear Sterns. Two days later, the U.S Department of the Treasure and the Federal Reserve Board started negotiating the sale of the bank to JP Morgan Chase. Bear Stern, which was one of the largest banks, only two years before that used to own assets of 350.5 billion dollars and total capital of 66.7 billion. The bank was sold for only 1.2 billion dollars by the end of March.

Although the blame was put on several sides, the U.S. credit rating agencies continue to be the number one aim, since they didn’t predict the collapse that was about to happen.

Another example is the Enron Scandal, which refers to the collapse of Enron Corporation, an American energy, commodities, and services company based in Houston, Texas, in December 2001. The company filed for bankruptcy few days after the downgrading of its credit rating.

I think it is more important for us to think about using ratios. People use ratios for equities. They say overgeneralize that a low PE is better than a higher PE ratio. I have doubts on these statements. There are too many assumptions in earnings estimation and growth assumptions. But it is better than comparing ratings.

Can we use interest coverage ratios? To pay down debt, we have to first consider the amount of money sitting in the firm’s bank account that can be drawn down to pay interest. So that’s the first level of assurance.

Can we use yield spreads? I think so. Yield spreads tell me the incremental rate over the risk free equivalent treasury bond. It tells me 2 things

1. My expected loss in a default
2. The premium I’m paying for credit and liquid risks

Please note that a firm would have been considered to have defaulted on payments when they fail to make payments on time. Being late for one day is default. So when you read on the news that shipping companies and banks fail to honor their debt obligations on time and in specific ways, they have defaulted. It happens frequently.

Credit risk is the risk that your borrower’s credit quality may change. If you gave someone $1000 for 2 years and in return, you get $100 per year and $1000 at the end of the 2 year period, you pray that this person doesn’t get into financial trouble. If he loses his job, his credit quality will change. But he may or may not decide to return you the money. This is credit risk. If he does not lose his job, but decides not to return you the money, this is default risk.

I often find that people are confused by credit, default and liquidity risk. Liquidity risk has nothing to do with borrower not returning money. If you bought a debt issuance and want to sell it on capital markets, you will face liquidity risks. You don’t know if you can liquidate this instrument quickly and in the right value. If you sell a $100 worth of stock for $50 and you have difficulty finding a buyer, the liquidity risk you are exposed to is tremendous.

Measuring bond value risk

How do we measure bond risk? Can we measure bond price like we measure stock price? Yes we can. But it is not as intuitive as volatility of yield spreads. I explained earlier that yield spreads contains information on bond risk factors. In addition, rates are inversely related to bond price. So it is better to measure bond risk by yield spread volatility.

For small changes in yields, bond price is directly negatively correlated. For bond portfolios, it’s not so clear cut. Bond convexity comes in to play – a term to describe the impact of different bonds with different payouts at different times. Every bond has a different modified duration.

So how is bond risks related to firm wide credit risk? Firms issue long term debt, these form the largest part of liabilities.

Layman understanding of credit safety

As a summary, a non-financial expert should only look at 2 things

1. Cash flow. The higher the cash flow the higher the interest coverage. I prefer to look into its operating cashflow. Are they making money from core operations? Some moneys sell assets to generate pseudo signs of positive cashflow.
2. EBITDA. You can also use earnings – add back non-cash charges.

Forget about ratings. They give you some information, but it’s clearly no adequate. Recall before the 2008 recession, rating agencies gave some of those banks that collapsed investment grade ratings.

Traditional Japanese lean concepts will revolutionize your business and personal productivity

Kaizen- The practice of constant improvement

Kaizen increases productivity by involving employees to help eliminate nonessential steps.

Kaizen leads you to greater productivity through elimination. When you analyze working processes, we often find several elements that consume time and energy without contributing anything to the end product.

Muda waste precious time, resources and ultimately money

These wasteful elements are called muda. By eliminating muda, we can free up resources, which in turn can be put to more effective use. For instance, muda could be overproduction, or the waiting time created by inefficient transportation. Work in progress, logistics and wait time is muda.

When team members come together to reduce muda, the firm will save a lot of costs. Kaizen is mostly used in manufacturing. Kaizen is applicable to a wide range of disciplines and fields. You can apply is to any industry.

Steps on how to apply Kaizen

1. Find ways to reduce muda
2. Solidify the solution and embed this new solution in the standard operating procedure

Gemba- Where the real action takes place

At this moment, I will introduce the “Gemba”. This term refers to the “workplace” or “production line”. You often need to be on the production line to see the problem for yourself. There are 5 terms related to Gemba

1. Seiri – sort out the mess
2. Seiton – straighten things out
3. Seiso – keep everything clean and tidy, literally.
4. Seiketsu– keep 1 to 3 a standard you do everyday
5. Shitsuke – sustain these new standards

I use the Kanban method to solidify gains under the 5S. Kanban is visual – allowing tasks to move from WIP to completion on a board. Visual management is an invaluable tool in an increasingly complex work environment. It’s cheap, commonsensical and allows us to save our time for the real work that needs doing.

Implement the three concepts together in your workplace to achieve improvement

Stringing the concepts together, Kaizen is a lean and efficient concept that must be implemented collaboratively among the team. Gemba is where things must start – at the workplace. We can use the 5S to find muda (waste), leading to Kaizen outcomes.

The place for improvements and innovations is the Gemba, so this is where managers should be. Only in the Gemba can one see where elements of Muda exist, and where there is room for improvement.

Soichiro Honda, the founder of Honda, never had a real office because he was always walking through the Gemba. If the workers see that their managers are in the Gemba, demonstrate Kaizen and are self-disciplined, their own motivation will increase. Both maintenance and improvement occur within the Gemba. Therefore, the manager needs to be there to do his or her job right. Of course, if the managers are active at all levels of the Gemba, they know their workers much better and both sides have more faith in each other. This is integral to the effective practice of Kaizen.

How to successfully utilize online platforms

The traditional business model of pipes has been replaced by the new online platform business model. The pipe’s model of building a business involved producers offering their service or product in the same location where the consumer was. However, the internet has altered the way people conduct business, view media and communicate with one another.

Unlike the pipe model, platforms are available online and allow any user to exchange products or services with another, regardless of their location, through online markets.

Additionally, companies are increasingly outsourcing their production to achieve cheaper costs, thus creating a gap between production and consumption. Subsequently, this situation has led to the rise of the new online platform business model.

Unlike the pipes business model, platforms allow users to create value, through buyers and sellers, as seen on Amazon, Craigslist or Uber.

User Friendly platforms allow users to add value

The key to platforms is that they are designed in such a way which makes the exchange between producers and consumers easier and faster, through simple user interfaces.

Some of the most popular platforms, such as Telegram, Viber or Skype, are very easy to use, by allowing users to send and receive free calls and SMS messages in a simple way. User-friendly and easy-to-use platforms attract users, as consumers tend to use platforms that are quick and easy to understand.

User friendly platforms allow consumers to tinker and experiment with the platform in ways that the creators may have never thought of, allowing the user to add value.

For example, Facebook started out as a platform to connect people. Soon enough, users began using the platform to buy and sell products and services through online posts. Facebook is now one of the largest market places for businesses and users as they can buy, sell and advertise products and services.

A successful platform is designed in a way that users can interact and get what they want

The initial formation of a platform entails creating a set of core values and then adding content and features to the initial base.

For Example, Uber’s core value is to offer rides to users and costumers to drivers. However additional content and features have been added. Now the user is able to acknowledge who is going to be their driver/rider is and also able to rate him/her.

The core of foundations of any platform is the services and products it offers. The more the services and products that are offered on a platform, the bigger it will become. Thus, creating an appealing platform is essential, as it allows for the expansion of products and services offered and subsequently for a bigger user base.

How does an appealing platform appear?

For a platform to be truly appealing, it needs to provide users with the possibility to realize exchanges in a simple and easy way.

Exchanges usually take two distinct forms: first is the creation, that allows any producer to generate something of value and increases the platform’s content supply. This could be a post on Facebook, or a posting on Tumblr.

The second is administration, a process that allows users to distinguish good content from bad content, thus making the platform more appealing for all users. The latter is done, for example, on Facebook where users are able to “like” comments or share a specific post.

Subsequently, an organized and appealing platform can face a big issue, when the content generated is so much that users have trouble finding what they want.

Therefore, a well-organized platform must have consumption filters in order to control the amount of excess content. Consumption filters work by connecting data to the content generated by users, which makes it easier for the rest users to find what they want.

An example would be when searching for a YouTube video; you can filter through the number of views, the titles and likes in order to sort out the good from the bad. By applying those filters, you can find the best rated video for you. 

A successful platform entices users to generate new valuable content

Before the onset of platforms, the internet comprised of 90% of people consuming content, 9% of people administrating content, while only 1% creating content. However, the success of platforms has urged a larger percentage of users to generate content.

In order for platforms to effectively create producers, they need two things; methods of content creation and networks to show it.

A successful platform which utilizes both methods is Instagram, as the latter platform allows users to post photos or videos, with filters and editing options, through an easy-to-access and widespread network. Instagram is now the most prominent photo and video sharing platform.

Interaction failures may cause difficulties for platforms, but they can be solved

An example of interaction failures is when you post a new photo on Facebook but you get no likes, or apply for a job on Reedsy but you get no responses. The reasons for an interaction failure may be that you posted a bad picture or sent a weak CV; however it can also be the platform’s fault.

Users often take advantage of multiple platforms which offer the same service. This means that no platform owns the entire market share of a particular service.

Take messaging platforms for example. Skype, Facebook Messenger and WhatsApp are all similar platforms. However, they are used by people interchangeably as they can use all those platforms to stay in contact with their entire social circle.

The best way to overcome interaction failures is by creating a precise metric system to discover the problems which hinder interactions and approval of your platform.

For Reedsy which helps Freelancers find employment, an effective metric system can count the amount of freelancers who haven’t gotten a job in a specific time, or the number of job postings that aren’t filled. Reedsy will then be able to evaluate the problem and offer a precise solution for users, which are experiencing interaction failures.

How to avoid the consequences of not having content when first starting a platform

When a platform begins to work, there is usually no content. However there are ways to avoid the initial repercussions of this lack of content.

Additionally, if the platform is functioning within a market where it’s easier to attract one group of consumers than another, there are effective ways to entice the latter group to use the platform as well.

For example, on match-making apps and websites: there are always more men than women registering. When men realize that there are not enough women registered they stop using the specific website. To avoid this, matching-making sites and apps often advertise free promotions and special offers to women, so that they join the site and prevent men from leaving.

Another tactic to entice users, is offering incentives for existing users to invite other users to join the platform. For example, various mobile games offer rewards to users, whenever they get their friends to join the game or when they make in-game purchases.

The new business model of platforms has replaced the traditional one, which used to offer limited options in terms of selling products or services. Platforms now offer a myriad of options for consumers and producers, including the ability of interaction, regardless of where they are located. Additionally, platforms now allow any user to create content and value, revolutionizing the way business can grow.

Is the best investment strategy to do nothing?

The investment chief for Nevada’s Public Employee’s Retirement System, Steve Edmundson has no colleagues at his firm, he seldom has meetings, and he usually packs his own lunch. Despite his solitude and unusual work habits, Mr. Edmundson’s fund has more returns than other pension funds that run like clockwork, with hundreds to thousands of employees. The key to Mr.Edmundson trading tactic is to do the least possible work necessary, which often entails doing absolutely nothing.

By Rasa Sarwari

Cutting costs and investing in low risk bonds and stocks

Nevada’s pension fund is invested in stocks and bonds that are all in low-cost funds that mimic indexes. Mr. Edmundson rarely makes more than one change to his portfolio every year. News headlines don’t matter much to him, whether it’s local or global.

Mr. Edmundson’s secret isn’t a complex formula or inside information on the markets, instead his strategy is not to outperform the market, but instead keep expenses low. He’s stated numerous times that his firm is “bare bones”, when it comes to expenses.

Instead of racking up expenses Mr. Edmundson prefers to save every penny his fund has. This is why he doesn’t have expensive office furniture, or high end perks, nor does he even buy lunch. He has stated that he doesn’t want to spend $10 every day in order to have lunch.

Despite his frugalness Mr. Edmundson’s funds over 1 year to 10 year periods ending on June 30, have shown greater returns than many of America’s largest public pensions, such as the New York Public Employees’ Retirement system, or The California Public Employees’ Retirement System (CalPERS).

Is doing nothing, really better than doing something?

In light of Nevada’s high returns, other state pension funds have taken note of Mr. Edmundson’s strategy, and the spokeswomen for CalPERS, which is valued at $300 billion compared to Nevada’s $35 billion, said that Nevada reduces the complexity, costs and risks in a portfolio.

For that reason, a big number of famous public pension funds have now taken up Nevada’s strategy, as numerous pension funds are dealing with low cash reserves and reduced interest rates. Even California’s $300 billion public pension fund has decided it would cut ties with 50% of firms that are handling its money.

Accordingly, compared to a decade ago nearly half of US public pensions are now in low-cost index funds. Many investors are now “migrating towards Nevada”, states says Stephen McCourt, who is the co-CEO at pension investments consultant Meketa Investment Group Inc.

However, other investors disapprove of Nevada’s do nothing approach. Mr. Chattergy is the pension chief investment officer for Hawaii and a friend of Mr. Edmundson’s, who disagrees with Mr. Edmundson’s approach. Unlike Mr. Edmundson’s approach, Mr. Chattergy relies on a myriad of investment market strategies, which have thus far been successful in getting him returns comparable to Nevada.

Should you turn funds passive?

In 2005, when Mr. Edmundson was brought onto the Nevada pension plan as an analyst, almost 60% of the funds stocks were in indexes. After becoming Chief investment officer in 2012, Mr. Edmundson did something unprecedented, by turning the fund more passive. By 2015, Mr. Edmundson had fired ten external managers, and put all of Nevada’s bonds and stocks into passively managed funds.

Subsequently, Mr. Edmundson saved the Nevada fund a fortune, as its outside management bill was nearly 1/7th of the other public pension’s, according to Callan Associates, which tracks retirement-plan expenses.

If Mr. Edmundson relied on outside management like other public pensions, he would have racked up $120 million annually in fees; however in 2016 the Nevada fund only paid $18 million.

Despite the success of Mr. Edmunson’s cost cutting, he still does day to day work, like any other average office employee. He prepares material for board meetings, drafts proposals and does administrative tasks, as he believes taking on extra employees would cut into costs.

Nonetheless, Mr. Edmunson still has some way to go if he truly wants his fund to succeed, as Nevada’s current assets would only fund 73% of what is needed to meet future retirement obligations to workers.

Key takeaways

Unlike other investment firms that woo and buy the attention of their clients, through expensive lunches or grandiose presentations, Mr. Edmunson often councils Nevada’s top pension officials on interest-rate risk, as well as investment targets in his small boardroom, through uninspiring Powerpoint presentations. Additionally, he avoids taking his clients out for expensive dinners, as he sees it as an unnecessary expense.

Moreover, Mr. Edmunson generally doesn’t work overtime, outside his normal 8-5 hours, drives to work every day in his 2005 Honda Element, which has over 280,000 kilometers on it, and in 2015 his salary was $127,121.75, according to a Nevada Policy Research Institute database.

The key take away from Mr. Edmunson’s success is not necessarily hard work, instead it’s the opposite. By doing the least work possible, Mr. Edmunson has cut huge risks and expense for his fund, and instead provided huge returns.

Charlie Munger’s investing system – Simplicity

Munger follows an investing system that focuses on simplicity. He follows Benjamin Graham’s investing principle – keep things simple.

This means to invest in businesses that are not over your head. Buy shares for less than their future earning potential. You will need patience waiting for them to appreciate.

Wait for the right moment to make a new investment. This method requires a realistic approach.

There are three important principles

First, treat owning a share as ownership in a business. You won’t understand the value of your shares unless you truly know the company in which you are investing.

Second, buy at a discount to give yourself a margin of safety. A margin of safety is the difference between the share’s current market price and its intrinsic value, that is, its future cash flow.

Third, stay rational. This is harder than it sounds. It’s your job to remain unemotional when selecting investment opportunities. Never allow your emotions to take control of your investing decision.

Here are some rules to succeed in investing.

Do not move your shares too often. Selling and buyer incurs commissions and fees. Try not to follow the herd. You don’t have to buy when everyone is buying. In fact, it is always safer to stay out when the market is overbought.

Differentiate between investing and trading. For investing, hold a long term view and always be well diversified. Trading is a type of work. Investing is allowing money to work for you.

At Seeking Returns, we hope non-professional investors take on non-discretionary investing. See the strong evidences here.

CFD broker: both the referee and the athlete

Contracts for differences, also known as CFD, is an arrangement between the investor and the provider to exchange differences in the value of a financial products or index between the time the contract opens and closes. UK Financial Conduct Authority (FCA) found that there is a “clear information asymmetry” between firms and retail investors in the CFD market.

High level of leverage and volatility

CFDs have high level of leverage. According to the research of FCA, some firms offer the leverage over 200: 1, which means the clients just need to pay a small fraction of the total value and the CFD provider covers the rest. It is true that this is attractive, but owing to the high leverage, the volatility of CFD is greater than other financial products. That is to say, you may lose much more than your initial deposit. Some people even compare CFD trading to “borrowing money to gamble”.

To avoid large-amount loss, many firms use auto account close-out. If you do not have sufficient funds to cover your total margin requirement (the balance of your account falls below a certain level), your CFD account will be closed out by the firm without consulting you. Then there would be liquidity risk. Even if some time later, the price of the underlying asset recovers and shows a profile to you, you cannot trade and you have to meet the loss.

The firms’ gambling-style promotion and bonus for opening accounts also contribute to the high risk. In practice, many clients are not well aware of the risk (the firms never tell them) and trade the products they do not have enough understand, unlike the financial products sold in the market. Actually, CFD is so volatile that even the most educated and experienced investors could have totally wrong predictions, no mention the inexperienced retail ones.

Conflict of interest: both the referee and the always-win athlete

Hedging against the clients is common and reasonable—few people can find their relevant clauses concerning conflict of interest hiding in a long and full-of-terms contract. Especially when your trading amount is large or the position on one trend is much larger than the opposed trend, to manage the risks, they have plenty of ways to be the clients’ competitors like getting exposure to that asset or index with partner companies to get the broker’s desirable result. The brokers sometimes hedge entirely or partly into the market, when the risk management models ask them to do so.

The client’s CFD trade could be close owing to the broker’s benefit. When the “risk management league” fails to produce the results that they want, the CFD provider may close the client’s trade without warning or paying any profit or money. There are also liquidity risks. If there are not enough trades being made for an underlying asset, the investor may be unable to trade over that asset. Imagine a sports game, the CFD provider or broker is acting both the referee and the athlete so they always win. Sometimes the retail investors do gain something because the winners want to keep them in the field and continue to play the game.

On December 6th last year, FCA published the consultation paper on “enhancing conduct of business rules for firms providing contract for difference products to retail clients”. In the consultation paper, FCA said the internal analysis found that 82% of CFD investors lost money on it and every client lost £2,200 at average. For consumer protection, FCA is going to tighten regulation of CFD trading.