Wealth is born of great savings habits. While at Citi, I often spoke at client dinners. Those attending were wealthy—but they sure didn't seem that way. That reinforced the impression I already had from corresponding with Journal readers. Those who amass seven-figure portfolios don't necessarily have huge incomes and often aren't talented investors.
Instead, they invariably fit the mold of "The Millionaire Next Door"—the archetype made famous by the best-selling book: They're the couple who live in a modest home and take pride in driving their car until the odometer breaks. By clamping down on living costs, they can save great gobs of money, and that's easily the biggest contributor to their financial success.
What about all the other stuff that personal-finance columnists write about, like cutting investment costs, buying index funds and managing taxes? Sure, those things help, but they pale in importance compared with good savings habits.
Looking to save more? According to the Bureau of Labor Statistics, a hefty 51% of household spending is devoted to just two items: housing and transportation.
But if your home and car are devouring a big chunk of your income, you'll find it tough to save. Want to lower your living costs? You might buy a less expensive home, pay off the mortgage and keep your cars for longer.
As an added bonus, low living costs can mean less stress and greater financial freedom. If you lose your job, want to change to a less-lucrative career or get hit with unexpected expenses, you know you can get by on relatively little.
It's OK to stray. In the 1990s, I advocated building stock portfolios using index funds that looked like the broad market. That meant focusing almost exclusively on two funds: a total U.S. market fund, like Fidelity Spartan Total Market Index Fund and Vanguard Total Stock Market Index Fund, and a total-international fund, such as and Vanguard Total International Stock Index Fund.
I still think these funds make a great core holding. But I have become more willing to stray from the market's weightings by adding other index funds that—fingers crossed—might improve a portfolio's diversification and bolster returns through rebalancing. The latter involves setting target portfolio percentages for different funds and then regularly bringing your mix back into line with these targets.
In particular, I have become a fan of index funds that focus on beaten-down value stocks, emerging markets, international small-cap stocks, gold-mining shares, and U.S. and foreign real-estate investment trusts. While I think funds like these can enhance a portfolio, they clearly introduce an added risk: With an investment mix that looks less like the global market, there's a greater chance you'll lag behind the broad market indexes in any given year.
Glorious returns mean lean times ahead. In the six years since I last wrote a regular column, we had an economic meltdown and a grudging recovery, accompanied by a stock-market meltdown and an exuberant recovery.
This has done wonders for my portfolio—and yet, today, I view market gains as a mixed blessing. Why? As valuations climb, expected returns fall. Foreign stocks appear reasonably priced, but U.S. stocks look expensive and bonds are downright scary.
Buyers of 10-year Treasurys can't expect to earn more than today's 2.5% yield, which isn't much above inflation. Meanwhile, the Shiller P/E—a variation on the standard share price-to-earnings ratio that uses inflation-adjusted corporate profits from the past 10 years—stands at 26, versus a 50-year average of less than 20. That doesn't mean financial markets will implode, but it does suggest future returns will be modest.
One obvious response: Save more. You should aim to max out your retirement accounts, especially an employer's plan that offers a matching contribution. But for additional savings, consider focusing on other goals, like paying down debt or buying that first home. Indeed, real estate strikes me as an intriguing purchase. Mortgage rates are modest, while home prices remain roughly 17% below their 2006 peak, as measured by S&P/Case-Shiller's 20-City and 10-City Composites.