frugal

The one book that all beginner investors should read

Ever since learning about managing personal finances and investing, I have also been reading a lot. I used to not read at all. Since my primary school days, I have not touched a book willingly, without it being a requirement to read it in school. I just don’t really like reading in general. It can be boring, it puts me to sleep, and I just feel like I have better things to do other than read. However, I realised that nothing really sums up information more completely than a good book. I started off with Rich By Retirement: How Singaporeans Can Invest Smart and Retire Wealthy. I felt that it was a really easy and smooth read. It is really applicable to Singaporeans.

After reading a few books, I came across A Random Walk Down Wall Street. It is widely regarded by many people in the online community. After reading it, I finally understood why. This article will not attempt to summarise the book because I just cannot summarise a 800 page book within a 1000 words. Instead, I will persuade you why you should read this book as well as the portions of this book that I feel that you should pay special attention to.

Why you should read the book

Firstly, the book is written by Burton Malkiel, one of America’s most famous economists. He is a leading proponent of the efficient market hypothesis and he consistently keeps this book up-to-date. The 12th edition is updated as of 2019. Burton Malkiel has also shown interest in updating the book in 2020 since such major economic events have occurred worldwide.

The book goes through many concepts of investing. It dives in first by introducing the differences between fundamental analysis as well as technical analysis. This serves as good introductions to both camps as oftentimes investors are classified into these two different camps.

Then, the book takes you down a walk back in time. He goes through the past speculative bubbles that occurred in the stock market. He briefly went through the Great Depression of 1929 as well as the Dot Com bubble. Later on, he goes to talk about events that are fresher in our memories, the 2008 Great Financial Crisis as well as the 2017 cryptocurrency bubble. Along the way, he also talks about the many frauds that have occurred along the way, one of the more memorable ones being Enron. This is still relevant today. We have just witnessed a case of fraud in Wirecard as well as Theranos not too long ago.

Following that, he dives deeper into the pros and cons of fundamental and technical analysis, showing that no one method is perfect. Even in cases when both cases are used, there are still possibilities that the method will fail.

Modern Portfolio Theory

Afterwards, he touches on more recent developments in investment such as the Modern Portfolio Theory (MPT). Once again, he does a great job explaining how MPT works as well as goes through the concepts of risk in terms of beta and systematic risk.

Eventually, he comes to the conclusion that even with the new factors emerging and “smart beta”, it is impossible to beat the market. The basic truisms that was held by various popular investors were debunked by him and his various case studies.

Lastly, he gives you one whole section that you can apply practically. He explains his rationale behind it and what you should do to manage your investments.

Whether you want to listen to his suggestions or not, I still believe the content in his book is very useful. I would say that they were even more important than the suggestions he proposed. After all, his suggestions was basically based on what we now know as passive index investing.

Parts you should pay special attention to

For investors who have read other investment books before, or even those who have done sufficient research online to understand what is passive investing, I recommend skipping Part Four. It will get really repetitive from that point on. But if you really want to read his recommendations, go ahead.

Personally, I believe that Part Two is the most important part of the book. He goes through fundamental and technical analysis very comprehensively. After that, he explains how the pros in the market “play” the market. He also draws out various comparisons and solid quantitative evidence to prove his points.

Following that, Part Three would be useful to keep up with the modern portfolio theory. It is becoming increasing popular within the investing community. In the past, it was based on “beta” and it was used to measure risk. Since then, more factors have emerged, such as “value”, “momentum”, “growth” and more. These factors have resulted in the introduction of “smart beta”, an amalgamation of these factors.

My thoughts

At the end of the day, the conclusion of the book will seem a bit anticlimactic to you. The book brings you through such a roller coaster, going through so many past events and even meticulously explaining to you how the pros analyse equities. All that only to end with “invest in index funds”.

I think this just proves one thing. It is the most sensible option for most investors. It is hard to beat the market. In fact, it is impossible to beat it in the long run, look at legendary investors like Warren Buffett trailing the S&P 500 in recent years. Index funds should form the core of your portfolio. It should take up a majority. In facts, he even tells “ambitious” investors that they can allocate some money to do active investing because the market is not always perfectly efficient.

This just reiterates one fact. Passive index investing is a simple concept, but it is not easy to hold out for such a prolonged period of time. (i.e more than 10 years, ideally 30+ years)

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