Book Review: The Elements of Investing by Burton G. Malkiel and Charles D. Ellis

Two great authors/thinkers recently released a book titled The Elements of Investing. The authors who co-wrote the book are Burton G. Malkiel and Charles D. Ellis. Burton Malkiel is the author of the very famous and bestselling book A Random Walk Down Wall Street. Malkiel is also a professor of economics at Princeton University. Charles Ellis is a director at the Vanguard Group. He has taught investing at Harvard and Yale and is the author of the bestselling book Winning the Loser’s Game.
The two men have teamed up and written a book titled The Elements of Investing. The book is a very quick read. The authors accurately claim that the book will take about two hours to read ( it probably took me less time than that to read it). However, one must not mistake concise for lacking value. The book teaches invaluable lessons to the beginning investor.

The book is divided into five parts which I will describe in more detail alone. The five sections discuss saving, indexing, diversification, avoiding blunders, and keeping investing simple.

I Saving– the authors devote the first part of the book detailing the importance of saving money. The authors give a few tips on how to save. They warn readers to avoid credit card debt since you are getting charged interest of 18% sometimes. When you do not repay on time and you keep getting charged interest on interest the numbers become astronomical and nearly impossible for the average American to pay back. Other tips on investing include- buying term life insurance, buy pre-owned cars, buy high deductable insurance, and cut back your spending!

The authors also state that any money you save you can compound and make you very rich when you retire. The authors quote Warren Buffett as stating that he views every dollar spent as $7 or $8 spent since he could have invested it and compounded it.

The authors provide a good example of how important it is to start saving young. William at age 20 invested $4,000 a year in stocks in a tax free account for the twenty years at which point he stopped. James at age 40 started investing $4,000 in stocks in a tax free account for the next 25 years.
The results: William retired with $2.5 million and James retired with $400,000. The lesson is clear start saving as much as you can and start early.

II- Indexing– the authors being believers in efficient market theory are big fans of indexing. They show statistics regarding the outperformance of index funds to actively managed funds. This is not only true in regards to stock index funds, bond index funds outperform actively managed bond funds by even wider margins. The authors also discuss ETFs and why they believe that mutual funds are better for most investors. The reason being ,that if you are contributing to your savings on a regular basis you will have to pay ETF commission fees, whereas you can make additional contributions to your index fund for no cost.

III- Diversification– The authors stress the importance of diversification. They point out the folly in making your 401K contributions to your own company. The authors tell a sad story of a secretary at Enron who put all her 401K contributions in Enron stock. Right before the collapse she was worth $3 million, after Enron collapsed she was penniless. This chapter of the book also discusses the importance of dollar cost averaging. Malkiel and Ellis stress importance of diversifying not just in domestic stocks but across other asset classes such as bonds and by purchasing international index funds. The authors also mention the need to have a chosen allocation of stocks versus bonds depending on your age and financial situation. The authors also state the importance of rebalancing your portfolio from time to time to keep your chosen allocation at your desired level.

IV- How to avoid blunders– The authors discuss how one of the important ways of making money is avoiding mistakes of losing money. They mention Warren Buffett as avoiding the tech bubble in the late 1990s and complex CDOs during the housing bubble and how he was mocked at the time. However, in the end Buffett was proven correctly because he stuck to his instincts.

The authors discuss in this chapter how “experts” are usually wrong in their predications and that an investor should ignore their forecasts. The authors briefly discuss some bubbles and how easy it is to get swept up in the mania of one. Malkiel and Ellis provide an excellent chart which shows that unfortunately inflows in to stock mutual funds usually peak at market highs, and outflows peak at market bottoms. This sad fact leads to investors earning far lower returns than both index and actively managed mutual funds.

V- Keep it simple – Wall Street tries to make investing seem much more complex than it truly is. The authors review some concepts discussed in the book such as the importance of buying health insurance, saving, and setting aside a cash reserve for emergencies.

Malkiel and Ellis demonstrate in this chapter how simple it is to index.

To Read the rest of my book review on Guru Focus click here

To purchase the book on Amazon.com click on the following link The Elements of Investing

New FTC rules require me to disclose I have a material connection because I received a free copy of this book to review.