How to make Money in the Stock Market

I must admit my title for this article sounds scandalous and scammy, like something a Las
Vegas-based email spam company would send out. But its also completely accurate,
because I really can teach you the best way to make money from the stock market all in one
short blog post.
Some of our readers are already advanced investors.. those few people already know all of
this and the article will just be preaching to the choir.
But the reason Im still writing is that almost nobody I meet in day-to-day life knows
anything about investing, the stock market, or big publicly-traded companies in general.
Their opinions on the subject range throughout boredom, fear, mistrust, and if they are
lucky, curiosity. Or if they are unlucky, bold confidence in their abilities to drastically beat
the market with their intuition.
Here are three real quotes I have heard from friends over time when discussing the stock
market.
Stocks are just a big roulette wheel.. You cant go out swimming with those sharks on Wall
Street theyll just eat you up!
I dont know what my retirement money is in.. I just checked some boxes on the sheet when
I started my job, but I dont really understand it.
I dont really believe in mutual funds at all Im dedicated enough to do my own research
and I can pick winning individual stocks.. Ive got some Apple, some Google, some Crude
Oil/Gold/Pigs Feet/whatever..
All three of these approaches are understandable, but wrong. The sentiments are valid and
Im glad that people at least have an opinion, but each represents a lack of knowledge about
the statistics that run the whole system. Knowing the nature of the market is the key to
being able to invest huge sums of your money over time with the absolute confidence that
youre not doing anything stupid.
Its worth gaining this confidence, because investing knowledgeably in stocks has always
been the single best thing to do with your money in terms of getting lifetime income with
absolutely no effort on your part.
To start with the basics What is a stock?
Its a slice of a company that you truly own. When you own a share, you have the right (but
not obligation) to attend the shareholders meeting for that company, vote on important
company decisions, and you have a right to a share of any future earnings that company
makes. This share of earnings is called a Dividend. In some companies, especially smaller or
younger ones, the company elects (with the permission of its shareholders) to reinvest the
dividends to help the company grow its earnings even faster. In theory, this means you will
get more dividends in the future. Thus, the real value behind any share in a company is the
right to get a never-ending stream of dividends from it. For Example, the old, long-profitable
company Lockheed Martin currently pays a 3.8 percent annual dividend while growing
slowly, while Apple Computer, fancying itself a high growth company, pays zero percent
right now and reinvests all profits for faster growth.
Why do stocks go up and down so much?
The true value of a stock is based on the amount of dividends this stock will eventually pay

you, the shareholder, over time. That dividend depends entirely on how much money the
company will make. But nobody actually knows in advance how much money companies will
make they just have a big host of differing opinions. Every day, millions of investors and
analysts scurry around and worry about how much money each company will make in the
future.
The Libyan People are Revolting! This will make the world have a shortage of oil, so prices
will go up! Oil Companies are now worth more! Buy! Buy!.
The US economy is slowing down! This means people will drive LESS to the shopping mall
and buy less gas! Oil demand will go down and oil companies will make less! Sell! Sell!.
Its a neverending din like this, for every single stock, on every single stock exchange,
throughout the world.
If stocks are so crazy, how can I make money off of them?
Because in the LONG run, it turns out that all this speculation and volatility always cancels
out to absolutely zero. The value of stocks will go up as the earnings of the underlying
companies goes up. A portion of the ongoing earnings will always flow to the shareholders
as dividends. And all this happens because of the natural ingenuity of hardworking humans
making things at a profit, and continuing to advance our knowledge and technology and
make us all more productive in every field . There may come a time when we can no longer
advance, but based on the fact that were still driving around in gas-burning tanks and Home
Depot is still doing all of its computing on green-on-black mainframe computers that kick
you back to the beginning of the order if you make a typing mistake, Id say we have at least
a lifetime left to go in this department.
So, stocks go up and pay dividends over time, and they have since the beginning of modern
commerce. The total return has averaged a very lumpy but fairly dependable 10 percent per
year before inflation, 7 percent after inflation. 5 of the 7 percent comes in the form of rising
stock prices, and the other 2 comes from dividend payments directly from the company to
you. When youre in your Stashing stage, you just let these dividends automatically reinvest
in more stocks which creates a nice compounding effect.
But WHICH stocks do I want to buy to make this free money?
This is the easy part. You buy ALL of them. The worlds smartest people have done incredible
studies on this for over 40 years. What they find is that the best way to make money in the
stock market is to simply buy an index fund, which is a mutual fund that automatically
buys appropriate ratios of every major stock in your countrys stock market, with no magic
and guessing of which stocks are better than others.
The reason the index fund wins statistically is because it can be run by a simple automated
set of rules no need to pay $350M salaries to the hotshot traders running the Aggressive
growth fund down the street. Because there are millions of people, both smart and dumb,
squabbling over the value of each stock, the Index Fund benefits and suffers from all the
individual stock performances. But overall, you get the average performance of all this
squabbling.
If you descend into the pit and try some squabbling yourself, you may come out ahead or
drastically behind the average, but as it turns out, you cant predict in advance which
squabblers (including yourself) will win and which will lose. All you can predict is that your
average performance if you buy enough of these funds will be equal to the return of the
market as a whole, minus the amount of fees your mutual fund charges. So by picking the

index fund with the lowest fees, you automatically win. Endless statistical analysis
proves this again and again. If you dont believe me, read the book A Random Walk Down
Wall Street, or look up the topic of John Bogle / Bogleheads / and the foundation of the
Vanguard company itself.
But my uncle bought some stocks once and sold at a big profit! Also, if index
funds really are the statistically best bet, why are there still thousands of brandname mutual funds and hotshot traders out there?
For the same reason that Las Vegas still exists and people still drive SUVs. Humans are
irrational creatures and it is scientifically proven that we overestimate our own investment
(and gambling) abilities, and no presentation of knowledge to the affected people can
completely erase this. I have some perfectly intelligent friends who still believe they are
lucky at games of chance, even though any scientist in the world can quickly run an
experiment to irrefutably disprove the existence of any form of luck. The only tool you can
truly use is statistical probability, and by buying the market average and lowering your
investment costs, you are improving your statistical chances.
OK, Fine. What Index fund do I want?
There is one king index fund that makes the decision easy for you. The Vanguard Total
Stock Market Index Fund tracks the entire US stock market index. Its expense ratio is
0.17%. This means that for every $100,000 of shares you hold, they subtract $170 per year
from their gains to pay for their offices and trading costs. Some funds charge 10-20 times
higher fees. So if you are looking over employer-sponsored plans, try to find a total stock
index fund (or at least its close cousin the S&P 500 index fund), and compare the expense
ratio to 0.17%.
What is the S&P 500? This is a collection of shares in the 500 largest companies in the US,
and therefore in most of the world. They are all multinational companies, so they benefit
from growth around the world. If you really want to invest without having to worry, the S&P
represents good odds. If you buy the stock market index of a smaller country, like Canada,
you will still have good odds, but at higher volatility. (During the dot-com boom of the
nineties, a company called Nortel once represented 70% of Canadas entire stock market
value. This company is now bankrupt, so you can imagine how that felt to investors solely in
the Canadian index. Now Canada is the new Saudi Arabia with oil exports, so its index is
again riding high on oil company stocks. I wouldnt bet my whole Mustache on that one
commodity either).
What about International stocks? Some people like to get fancy and buy international
index funds, which can do well when the US is hurting (as it has been recently). This is fine,
as long as you understand that its just another form of trying to outsmart the basic stock
index. When you do this, you are stating that you believe the stock markets of the other
countries are more undervalued relative to future growth, than the US market is. The US is
traditionally the most business-friendly country in the world, so its stock index has tended to
have the highest performance, after taking into account its lower risk and volatility
compared to, say, throwing all your chips onto Russia or China. It may or may not pay off in
the future I just want to point out that most people just make this decision on a whim,
something like China is so hot right now, theyre taking over the world! . Whereas to
actually justify international investing rationally youd have to be a very sophisticated
investor and truly understand WHY you are doing it.

So there you have it in two words: Vanguard.com, and VTSMX. In Canada, check out TD
Waterhouse and their own series of funds, and let me know if you have any questions about
what you find there MMM has a Canadian Investments Expert Panel that can help us out.
Invest!