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Winning the game of investing

Football is a lot like investing, and I'm talking about more than the thrill of victory and the agony of defeat.

Let's start with the importance of a diversified portfolio. Championship teams do not depend on one high-priced player. Instead they rely on the contributions of an entire roster, regardless of how large or small a part each plays.

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When my favorite team's quarterback crumpled to the turf in a recent game, I couldn't help but ponder the impact of a potentially significant injury on the team's playoff chances. Just as with injuries in sports, there will be setbacks in investing, too, whether it is a bear market, interest rate volatility or just the inevitable incorrect investment decisions. But just as a well-rounded team, with a balanced attack, mitigates the risk of losing the wrong player to injury, a properly diversified portfolio helps weather the storm without compromising long-term investment objectives.

An age- and risk-appropriate portfolio will keep you on track to reach investment goals in the face of short-term setbacks. Most important is asset allocation, which determines 91 percent of an investor's total return. This is a rather fancy term to describe the process of divvying up your money between different investment classes, such as stocks, bonds, real estate, commodities and cash investments. An initially aggressive allocation should give way to a more-conservative approach as retirement, college tuition or whatever use the money is intended for, approaches.

Disciplined saving and investing are as important to reaching financial goals as blocking and tackling are to success on the gridiron. These are truly fundamental behaviors, such as "paying yourself first" by having money direct deposited from your paycheck into a savings or mutual fund account. Also important are the use of tax-advantaged accounts such as 401(k)s, Roth IRAs and traditional IRAs that work to boost your ultimate return by shielding the investor from taxation at some point.

In an era where players can move to other teams freely when contracts expire, teams are not afraid to say "Sayonara" to a high-priced player commanding a big payday as a free agent. The investing corollary is "valuation." In football, ownership has a concern about tying up lots of money in a player whose production may not match his paycheck. Instead, there are plenty of young, hungry players coming out of the college ranks that can be nabbed at a fraction of the price for a coaching staff willing to gamble on their scouting prowess.

For investors, there are also plenty of fish in the sea -- investments at reasonable valuations that have potential for significant upside. Buying low and selling high is a winning investing strategy, much more so than buying high, with the hope of selling even higher. This thought is relevant not just to financial assets such as stocks and bonds but also to assets such as real estate. A home that sells for twice the price of a few years ago now will require a much longer holding period and offers no guarantees of replicating a similar performance.

There is much talk in sports about team chemistry, how well the team functions as a unit. This is akin to giving your investments time to show their true merits. Resisting the urge to trade excessively will not only lower your investment costs but could significantly boost your return. A survey by DALBAR Financial Services looked at investor returns in the 19-year period between 1984 and 2002, a period when the Standard & Poor's 500 Index increased at an average annual rate of 12.9 percent. While the average U.S. stock mutual fund was up an average of 9.6 percent annually during that stretch, the average individual mutual fund investor earned just 2.7 percent annually. Why such a large gap? Excessive trading and attempts by investors to "time the market" are the primary culprits.

Finally, all teams in the National Football League are governed by a salary cap, an annual ceiling on the total that can be spent on player salaries and bonuses. While the rest of us are dealing in much more modest numbers, the concept is the same. We all have limited dollars to invest. Therefore, we must act prudently with what we have. Minimizing investment costs, maintaining a long-term perspective and appropriately allocating investments across asset classes, rather than chasing the flavor of the month, all make for the most efficient use of limited investment dollars.

Bankrate.com's corrections policy-- Posted: Oct. 17, 2005
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