Rules of Thumb - Personal Financial Planning — Part 5: Managing Investments

Investment Planning Rules

Secure insurance + 3-6 months emergency savings before investing (p. 350)
Use conservative historical returns (10-15 year periods) for projections (p. 352)
Asset allocation > security selection for long-term returns (p. 383)
Equity risk premium materializes reliably only at 15+ year horizons (p. 352)
Invest consistently regardless of market conditions (p. 385)
Day traders need 50-60% profits to break even on fees — avoid (p. 382)
First investment: balanced mutual fund for instant diversification (p. 385)
Never invest in something you don't understand (p. 351)

Use ROE as primary profitability screen; falling ROE = warning (p. 406)
P/E far above market average = potential overpricing (p. 406)
Beta < 1.0 = conservative; > 1.0 = aggressive (p. 407)
Enroll in DRPs immediately for all dividend-paying stocks (p. 414)
Exploit tax-timing: paper gains grow tax-free until sold (p. 404)
Expected return must exceed desired rate; reject if it doesn't (p. 412)
Missing 10 best trading days over 15 years cuts returns from 9.88% to 6.45% (p. 414)
Avoid complex instruments — "meant to be sold, never bought" (p. 407)

Compute taxable equivalent yield before choosing munis vs. taxable (p. 421)
Hold zero coupon bonds in tax-sheltered accounts only (p. 421)
Buy investment-grade (BBB/Baa or better) unless specialist (p. 423)
Prefer intermediate-term maturities (5-10 years) for best risk-return (p. 417)
Check call provisions before buying any corporate bond (p. 421)
Match strategy to rate outlook: short/high-coupon in rising rates, long-term in falling (p. 428)
Don't rely on ratings alone — agencies failed in 2007-2009 (p. 423)
Interest-on-interest = ~45% of 20-year bond total return — always reinvest (p. 397)

Start with no-load/low-load index funds (p. 447)
Read the SEC fee table in every prospectus before buying (p. 442)
True no-load = ≤ 0.25% in 12(b)-1 fees (p. 441)
Maximum total fund charges = 8.5% (p. 441)
ETFs for narrow exposure; mutual funds for broad index (p. 440)
Hold ETFs for tax efficiency — rarely distribute capital gains (p. 439)
Avoid leveraged/inverse ETFs unless you fully understand derivatives (p. 440)
In 401(k): capture full match, use index funds, cap company stock 10-20% (p. 455)
Evaluate funds over 5-7+ years with same management team (p. 460)
Avoid dogs rather than chase stars (p. 454)

Use REITs for passive real estate exposure; direct ownership for active (p. 464)
Leverage only when expected profit clearly exceeds borrowing cost (p. 462)
Passive activity losses limited to passive income; $25K exception below $100K AGI (p. 462)
Hire a tax consultant before buying investment real estate (p. 462)
Raw land = speculation, not investment (p. 463)
Evaluate REITs by AFFO, NAV, LTV, property quality (p. 465)
Evaluate income property by NOI and cap rate (p. 463-464)

Reinvest all income — it's the largest single contributor to long-term wealth (p. 396)
Minimize transaction costs — they compound against you (p. 385)
Match investment vehicles to objectives before comparing performance (p. 454)
Life stage (age, income, family, horizon) determines allocation, not market sentiment (p. 386)
Tax drag is a compounding cost; use shelters and timing to minimize it (p. 357)