Professor Farnsworth's

Guide to Personal
Investing and Wealth
(Part 1)
 Preliminaries
• Not officially/legally investment advice
• Fundamental principles of personal investing—you must take
responsibility for your own investing
• Colored by my own experiences, personally and
professionally
• Risky investing is, by definition, unpredictable. Bad
strategies may outperform sound ones, even for long periods
of time.
Bits of preliminary advice
• I opened my first brokerage account when I was a
junior in college, with $1,500. This was not too early
to get started…if anything it was late
• It is not to early to think about and start preparing for
retirement
• Makes your mistakes with small amounts of money
• Ask tons of questions, from legit sources if possible
• Don't be afraid to explore new assets and asset
classes
 Fundamental Priorities of Wealth
1. Earn as much money as reasonable, for as much time as
reasonable
2. Decide a reasonable amount to save and consume given your
income and goals
3. Legally avoid all taxes that you can
4. Minimize your payments to the financial industry
5. Diversify fully
6. Minimize transactions costs
7. Try to approximate optimal weights
 Earning Money
• The purpose of a job is to provide you with the life you want. Balance the
following
• Money
• Prestige/validation/ego
• Free time
• Think carefully and look at your past when deciding which of these matters
most
• If you are not a type-A person now, in college, you will likely not be happy trying to
be a type-a person in your workplace—there are many good jobs that do not require
your every waking moment
• If you are not happy being poor, think carefully about taking jobs that will make that
a permanent situation
• NO job is always fun, exciting, fulfilling, gratifying, or satisfying
 Making money with your career
• Choose a feasible career path and work tenaciously toward it—don't
keep changing mind
• Prepare early…many jobs aren't open to second chances
• Work all contacts and opportunities fully and with courage
• Play to your competitive advantages...what you are better at or more
willing to do than your competitors?
• Probably change jobs every 3-4 years for the first portion of your career
• Do not get discouraged when it takes a long time to get there
 Maximizing your take-home
• Start early with the earning…summer jobs, second jobs, etc.
• Set money aside from the very beginning, both retirement and
"working capital"
• Think very carefully about how much education you need
• The biggest cost is not the tuition, it's the time not working
• Delay consumption. Don't let your spending and debt become
your boss
• Don't be inflexible in your life choices (must live in such a such
a place, must have a certain working environment, etc.)
• Seek promotions, raises, and advances with courage
Take maximal amount home
• Take full advantage of 401(k) matching, always
• Take advantage of job benefits
• Housing allowances
• Reimbursed expenses…especially if self-employed
• Don't be afraid of side jobs and entrepreneurship if
you have ability
• Overtime and other opportunities if available
 Fundamental Priorities of Wealth
1. Earn as much money as reasonable, for as much time as
reasonable
2. Decide a reasonable amount to save and consume given your
income and goals
3. Legally avoid all taxes that you can
4. Minimize your payments to the financial industry
5. Diversify fully
6. Minimize transactions costs
7. Try to approximate optimal weights
Savings and consumption
• Optimally, we should engage in consumption smoothing
• There is a lifecycle to savings/consumption
1. Parents support you
2. Borrow to get started with life
3. Repay all debts and save
4. Retire and consume the rest
• Ensure your saving/borrowing matches your time in life
• Don't leave too much to your kids…they don't need it
• Don’t stay in the borrow phase too long
Asset growth and savings
• Make reasonable assumptions about your total asset
growth
• Mid-single digits annually is realistic
• Your asset growth often does not exceed growth in debt due to
interest, so pay that down unless interest rate is subsidized
• Be prepared for negative growth if you take a risky strategy
• Begin habit of saving when you are starting out
• You will never feel "rich enough" to deviate from the
savings pattern you establish early
 Fundamental Priorities of Wealth
1. Earn as much money as reasonable, for as much time as
reasonable
2. Decide a reasonable amount to save and consume given your
income and goals
3. Legally avoid all taxes that you can
4. Minimize your payments to the financial industry
5. Diversify fully
6. Minimize transactions costs
7. Try to approximate optimal weights
 Avoiding Taxes
• Maximize tax advantaged savings and consumption:
• 401(k) – $90,000 for you and spouse per year (not counting
company contribution
• Traditional or Roth IRA depending on your tax rate $6,000 per
year
• If income is high, contributions not deductible
• Contribute to traditional, then convert to Roth (backdoor Roth)
• Health savings account
• Spend some time getting familiar with tax rules
• "Financial advisors" may not be experts
For the self-employed (including
side jobs)
• SEP and SIMPLE IRA
• Or solo 401(k) – much higher contribution limits
• Employ spouse, children (over 7 years old) and have them
put money in tax-advantaged accounts
• Look for every opportunity to count costs (you are only taxed
on after-cost profit)
• Incorporate and pay yourself in dividends instead of wages
where possible (no self-employment tax on dividends)
 Avoiding taxes in your portfolio
• Save appropriate amount in tax-advantaged accounts before putting in
regular brokerage accounts
• Sell assets that are down at the end of the year. You can rebuy them
soon after, but selling lock in those tax deductions (tax-loss harvesting)
• Minimize transactions where possible (you get taxed each time you
sell)
• Prefer domestic stock and holding periods over 1 year—lower tax rate
• If your income is low enough that you are in a low tax bracket, be sure
to sell (and re-buy) before your income goes up
• Capital gains rate is 20%, 15%, or 0% depending on tax bracket
 Fundamental Priorities of Wealth
1. Earn as much money as reasonable, for as much time as
reasonable
2. Decide a reasonable amount to save and consume given your
income and goals
3. Legally avoid all taxes that you can
4. Minimize your payments to the financial industry
5. Diversify fully
6. Minimize transactions costs
7. Try to approximate optimal weights
 Minimize payments-Brokers
• Do not pay for investment advice or services…too easy to get for free
• Do pay for legal/tax advice where appropriate
• Even free brokers will charge you:
• 12(b)-1 kickbacks
• Fees (such as when you move your money out)
• Bid/ask spread
• Trading costs
• Read all fine print and make sure you know how they are making money and how
efficient they are
• If your broker is really pushing a fund or asset, look very closely and
determine if they have a perverse incentive
 Savings vehicles
• IRA's are generally better than 401(k)'s
• Cheaper
• More assets to choose from
• More flexibility to take money out, etc.
• You can roll money out of 401(k) any time you change jobs and at some
other times as well
• Solo 401(k) are better than work-provided 401(k) if you shop
right
• Discount brokers are pretty much always better than full service
• Ameritrade, Schwab, Robinhood, Fidelity, Vanguard, E*trade
• Reputation doesn't matter—normally you can't lose money if the
broker goes under
Minimizing Fund Costs
• If you have millions to invest, buying underlying is likely better
• No management fees
• You can sell losers each year for tax reasons
• You can ensure that transactions are minimized
• If you use funds, index funds are much cheaper
• Vanguard funds are often the cheapest after tax
• Vanguard has a special legal structure that other companies do not
have
• Many large companies have special funds for larger investors,
with better fees (admiral class, etc.)
 Minimizing fund costs
• No good excuse to have a 12b-1 fee greater than zero
• Look at total gross expense ratio
• Look at turnover—transactions costs do not show up in expense
ratio
• Look at class A, B, C and consider your horizon
• ETF vs. Index fund: depends on frequency of your purchases and
your preferences (overall little difference)
• Look at funds that partner with broker to provide free trades
• Look at your portfolio at least once a year and see if new and
better options have appeared
 Alternative Investments
• You may get opportunities to invest in some of the following:
1. Private real estate investment trusts
2. Hedge funds
3. Venture capital or private equity funds
4. Direct investments in startups or private companies
5. Real assets (real estate, etc.)
6. Funds of Funds (hedge funds, VC, or PE, usually)
• Each of these has earned a lot in the past
• Approach with caution.
• 1, 2, 3, and especially 6 have very high fees
• All have high minimum investments
• Difficult to diversify
• All have low liquidity
 Fundamental Priorities of Wealth
1. Earn as much money as reasonable, for as much time as
reasonable
2. Decide a reasonable amount to save and consume given your
income and goals
3. Legally avoid all taxes that you can
4. Minimize your payments to the financial industry
5. Diversify fully
6. Minimize transactions costs
7. Try to approximate optimal weights
Diversification
• Among investment priorities, this is the number 1 factor
• Also a common mistake among active traders
• Mutual funds, ETF's, and Index funds are your best bets for small amounts
of money
• For large amounts, purchases of the underlying assets

Remember, the market doesn't compensate idiosyncratic risk, so there is no

reason for you to bear it

• If you have background risk (non-vested stocks, human capital, home

ownership) do not take additional position in that asset