Vanguard research

Vanguard’s Principles
for Investing SuccessNotes on risk
All investing is subject to risk, including possible loss of principal. There is no guarantee that any
particular asset allocation or mix of funds will meet your investment objectives or provide you with agiven level of income. In a diversified portfolio, gains from some investments may help offset losses
from others. However, diversification does not ensure a profit or protect against a loss. Bond funds are
subject to interest rate risk, which is the chance bond prices overall will decline because of rising interest
rates, and credit risk, which is the chance a bond issuer will fail to pay interest and principal in a timely
manner or that negative perceptions of the issuer’s ability to make such payments will cause the priceof that bond to decline. Stocks of companies based in emerging markets are subject to national andregional political and economic risks and to the risk of currency fluctuations. These risks are especiallyhigh in emerging markets. Prices of mid- and small-cap stocks often fluctuate more than those oflarge-company stocks. Funds that concentrate on a relatively narrow market sector face the riskof higher share-price volatility.

Contents
5

Goals Create clear, appropriate investment goals.

8

Balance Keep a balanced and diversified mix of investments.

14

Cost Minimize costs.

18

Discipline Maintain perspective and long-term discipline.

3Introduction“Investing success” can mean different things to different investors. Determining
what success means is essential to understanding what path to follow.
Although investing can seem perplexing andcomplex, success is largely within an investor’s
control. And having a tailored investment
strategy can go a long way toward reducing thestress and noise associated with the topic.
Vanguard’s Principles for Investing Success aredesigned to help investors create such a strategy.
Our approach has one key overarching theme:
Focus on the things that are within your control.

term market movements, the latest economic
news, or the newest investment trend, thesethings are generally not conducive to making
better choices or enhancing investment outcomes.
We suggest that when making any investment
decision, investors focus on the four principles
shown in Figure 1—goals, balance, cost, anddiscipline—which are grounded in research anddescribed in detail later in this paper. This guide
is designed to help investors focus on what’s
important and give them the best chance forinvestment success.

Headlines, social media, and new investment
trends can grab our attention and distract us.
Although it can be tempting to react to short-

FIGURE 1.

Vanguard’s Principles for Investing Success

Goals

Balance

Cost

Discipline

Create clear, appropriate
investment goals.

Keep a balanced anddiversified mix of investments.

Minimize costs.

Maintain perspective andlong-term discipline.

4

GoalsCreate clear, appropriate investment goals.
An investment goal is essentially any plan investors have for their money. Many of us
aspire to achieve a certain quality of life or fund a specific business objective. Being
explicit about investment goals helps investors turn aspirations into reality.
Investors take many forms: a person saving for
his or her own future, a financial advisor helping
clients, a pension plan manager helping ensure
their fund’s financial sustainability. Althoughgoals are unique to each investor’s situation,
preferences, and objectives, some common ones
are having a comfortable retirement, funding a
big purchase in the near future, leaving a financial
legacy, or setting a policy for sustainable
spending from an endowment. Investment goals
can also be less tangible, such as simply growing
wealth to ensure future flexibility or to create asense of financial security.

goal needs to be accounted for, and compromises
may need to be made; some goals may need tobe put to the side so that others can be tackled
first. This normally involves understanding how
much the investor may be willing to give up now
to achieve a goal in the future. In prioritizing theirgoals, investors will benefit if they focus on whatmatters most to them.

The power of saving and investing

The value an investor’s portfolio achieves over timeis the sum of two things: their savings and theirinvestment return. Savings is the amountinvested—what the investor contributes initially andover time—and investment returns are the changes
in the value of those contributions over time.

Goal constraints

Investors should understand the types of
constraints they face in reaching their goals.
These constraints can include how much timethey have to invest (their investment horizon), as
well as their level of risk tolerance, how much they
can invest initially and over time, and when theyneed access to their investments.

Financial market returns get reported every day.
This daily “noise” is why much of the discussion
about investment success inevitably focuses on
returns, with far less attention paid to savings.
However, the amount saved toward a goal is also
extremely important for success. And while
investors have no control over market movements,
they have some control over the saving andspending components of building wealth.

Investors typically have multiple goals. Prioritizing
goals can be a challenge, especially if goalfunding capacity is limited. In such cases, each5

Once investors set goals, it is important forthem to understand both how much they needto save and how much they can expect theinvestment to grow over a given investment
horizon. Figure 2 shows how savings andinvestment returns contribute to theachievement of an investment goal across time,
assuming a fixed investment return of 4% over
inflation and no initial investment.

through savings; only 6% comes from investment
returns. If that horizon is expanded to 10 years,
savings contribute only 80% toward the goal,with investment returns contributing theremaining 20%. Finally, over a 30-year time
horizon, investment returns and savings
contribute roughly the same amount.1
For long-term goals, investing is crucial, as
investment returns become more and more
important over time. On the other hand, forshorter-term goals, savings—which are within theinvestor’s control—may have a greater impact.

Investors will achieve their goal through savings
and investment returns. Time is a key factor here.
For example, for a goal with an investment
horizon of two years, 94% of that goal is achieved

FIGURE 2.

Savings and investment returns both contribute to the achievement of any investment goal
Over any given goal horizon, an investment balance is the sum of savings (the amount an investor puts into theinvestment portfolio) plus the investment returns on the total amount invested.
100%

Portion of contribution to investment goal

For short time horizons,savings is the driving force
for achieving a goal . . .

Savings. . . but as the time horizon
increases, investment returns
increase in importance.
51% Savings
49% Investment
returns

50

80% Savings
20% Investment
returns
94% Savings
6% Investment
returns

Investment returns
00

2-year10-yearGoal horizon

30-year40-year

Notes: This hypothetical illustration does not represent the return on any particular investment, and the rate of return is not guaranteed. The calculation for thecontribution of savings and investment returns was determined as follows: Assuming a fixed 4% real return over inflation and equal annual contributions, we
calculated how much an investor needs to invest annually to achieve a given investment goal for different time horizons, varying from 0 years (when investment
begins) to 40 years after investment begins. Savings represent the amount invested (the principal). Contributions (in real terms) are assumed to be the same
every year relative to the year investing begins.
Source: Vanguard.

1

Note that Figure 2 uses a fixed 4% return over inflation. For higher rates of return, the contribution of investment returns toward the achievement of thegoal would increase. For lower rates of return, the contribution of investment returns would decrease.

6Key takeaways about goals
1 Define goals clearly and create a plan basedon the specific situation.

2 Be realistic. Recognize constraints, including
risk tolerance, that may be involved in
attaining a goal.

3 Bear in mind the importance of saving.

While market movements occupy most of
the headlines, the market is not within an
investor’s control. Saving and spending
rates are.

7

Balance
Keep a balanced and diversified mix of investments.
Once an investor has set clear and appropriate investment goals, the next step indeveloping a plan is to define the mix of investments to help achieve their goals.
This process is also known as defining an asset allocation.
Without a clear plan of how they will invest
their money, investors may build their portfolios
focusing on factors such as performance ofindividual investments, losing sight of theirportfolio as a whole. These investors might be
attracted to a particular investment and buy it
without thinking about how or where it may fit
into an overall portfolio. As a result, theirportfolio may wind up having an unsuitable levelof risk. An investor’s unique situation should beconsidered when building a portfolio, including
their risk profile and time horizon.

vacillations in the value of their portfolio. The
higher an investor’s risk tolerance, the greater thevolatility they can tolerate in their portfolio. This
generally translates to investors with a high-risk
tolerance being able to include a greater
proportion of risky assets, such as stocks, in theirportfolios.
Risk capacity (also known as “capacity for loss”),
on the other hand, relates to an investor’s ability
to withstand a loss in their portfolio. For themost part, risk capacity is determined by theinvestor’s cash flow needs and the length of theirinvestment horizon.

Understanding the investor’s willingness
and ability to take risks

The importance of asset allocation

When considering the appropriate mix ofinvestments, investors should bear in mind thebenefit of having a portfolio that matches theirlevel of comfort with the ups and downs ofmarkets. At the same time, investors need toearn enough returns to be able to achieve theirgoals. The concepts of risk tolerance and risk
capacity are helpful in guiding investors tounderstand what an appropriate level of risk
might be.

When building a portfolio to meet their goals,
investors should understand that the mix ofassets in the portfolio will likely define the rangeof returns they will get. Figure 3 shows a simple
example of this relationship using two asset
classes—global stocks and global bonds—todemonstrate the impact of asset allocation on
both returns and the variability of returns. The
numbers in the middle of the bars in the chartshow average annual returns since 1901 forvarious global stock/global bond allocations.
The length of the bars shows the range between
the top 5% and bottom 5% of annual returns of
the different portfolios.

Risk tolerance is based on an investor’s
willingness to take on risk in their portfolio—that
is, how comfortable they are with the potential

8The risk-return tradeoff for stocks and bonds isapparent in Figure 3, which shows that since
1901, a higher allocation to stocks has meant
both higher average returns and a corresponding
greater variation in returns. For the period from1901 through 2022, the average nominal annual
return for a portfolio composed solely of global
stocks was 8.1%, while average annual return fora portfolio composed solely of global bonds was
4.7%. To achieve those higher average returns,
though, stock investors faced greater short-term
volatility. Stocks can face substantial short-termlosses—from which it may take many years torecover. Over longer periods, however, they havebeen more likely to outperform bonds.

FIGURE 3.

A portfolio’s mix of assets defines its range of returns
Top 5%, bottom 5%, and average annual returns for various global stock/global bond allocations, 1901–2022
Annual return

34.3%
29.0%
25.0%

24.5%

21.9%

Percentile key:

20.6%

95th

6.4%

5.6%

4.7%

8.1%

7.7%

7.1%

Averageannualreturn0
5th–15.3%

100% bonds
0% stocks–14.5%

80%20%–17.0%

60%
40%–20.8%–21.6%–21.8%

40%
60%

20%
80%

0% bonds
100% stocks

Less risk

More risk

Notes: Data are from Dimson-Marsh-Staunton (DMS) dataset for 1901–2022. Annualized nominal geometric returns are in dark green. The 5th and 95th
percentiles are plotted below and above asset mixes. Bar length indicates the range, from 5th to 95th percentile, of annual returns for each allocation; the longer
the bar, the larger the variability. The numbers next to each bar represent the average nominal annual returns for that allocation for the 122 years covered.
Sources: Vanguard calculations, using DMS global returns data from Morningstar, Inc. (the DMS World Equity Index and the DMS World Bond Index, both innominal and real terms). The dataset includes returns from Australia, Austria, Belgium, Canada, China, Denmark, Finland, France, Germany, Ireland, Italy, Japan,
the Netherlands, New Zealand, Norway, Portugal, Russia, South Africa, Spain, Sweden, Switzerland, the United Kingdom, and the United States.
Past performance is no guarantee of future returns. The performance of an index is not an exact representation of any particular investment, as you cannot
invest directly in an index.

9

Stocks are risky—and so is avoiding them

Investors may gain exposure to an asset class bytrying to match a market’s return as closely as
possible, or by trying to outperform a market’s
return through choosing certain securities orfactors they deem attractive. Indexing is aninvestment strategy that seeks to match thereturn and risk characteristics of a market or
market segment, either by holding all securities
that make up the index or by holding astatistically representative sample of the index.
Index approaches provide broad exposure to an
overall asset class or market segment. Active
management tends to be more concentrated,holding only a subset of the underlying target
market, as managers of active funds seek tooutperform the broad market. Although active
investing offers the potential foroutperformance, research shows that mostactive strategies underperform their target
market over long periods of time, often due totheir higher average costs (Lawrence and Plagge,2023). Even with those active funds that dooutperform the broad market in the long run,shareholders need to be able to cope with thelikelihood that active funds may underperformthe market for long periods along the way(Tidmore and Hon, 2020).

2

The ups and downs of the stock market may
scare some investors from holding stocks aspart of their portfolio. At the same time,
concentrating investments in less volatile
investments, such as cash, may feel safer.2 But
shying away from stocks may come at a cost.
When investors avoid short-term volatility by
avoiding stocks, they risk not achieving sufficient
growth over the long term. Figure 4 (Panel A)
shows that cash is substantially less volatile
than stocks over a one-year investment horizon.
However, as Panel B shows, stocks have generally
outperformed cash over a 20-year investment
horizon—at times, by wide margins.
Another risk of avoiding stocks is inflation: Should
their stock-light portfolio not grow as fast as
prices rise, investors will lose purchasing powerover time. Over the long run, despite theirvolatility, stocks have tended to outpace inflation.
By shying away from stocks over the long term,
investors will likely earn lower returns and be lesslikely to outpace inflation if they concentrate
their investments in bonds and cash. This meansthat they may not be able to earn the required
rate of return to achieve their investment goals,
and may have to save more as a result.

We define cash as interest-earning short-term government debt. See “cash investment” in the glossary at the end of this paper.

10

FIGURE 4.

More volatile in the short run, stocks have tended to outperform cash in the long run
Panel A. 1-year returns (%)

Panel B. Rolling 20-year returns (annualized) (%)

75

15...but stocks werelikely to outperform
cash over 20-year
horizons, at times
by wide margins.

Cash was substantiallyless volatile than stocks
over a 1-year horizon...
50

10
25

0
5

–25

0

–50
1901

1920

2022
Stocks2022

Cash

Notes: Data are from Dimson-Marsh-Staunton (DMS) dataset series for 1901–2022. Equity is nominal equity return, which is defined as the DMS Real World
Equity Total Return adjusted by DMS World Inflation. Cash is the nominal bill return, defined as the DMS Real World Bill adjusted by DMS World Inflation. The plot
on the left (Panel A) represents one-year returns of stocks and cash; the plot on the right (Panel B) represents rolling 20-year returns (annualized). In Panel B, theend point of the first rolling 20-year period is the first data point.
Sources: Vanguard calculations, using DMS global returns data from Morningstar, Inc. (the DMS World Equity Index and the DMS World Bond Index, in bothnominal and real terms). The dataset includes returns from Australia, Austria, Belgium, Canada, China, Denmark, Finland, France, Germany, Ireland, Italy, Japan,
the Netherlands, New Zealand, Norway, Portugal, Russia, South Africa, Spain, Sweden, Switzerland, the United Kingdom, and the United States.
Past performance is no guarantee of future returns. The performance of an index is not an exact representation of any particular investment, as you cannot
invest directly in an index.

11Diversify to manage risk

“betting” on any one particular investment ortype of investment. Although broad market
diversification cannot insure an investor against
losses, it can help guard against unnecessarily
large losses.

Diversifying across different kinds of investments
reduces a portfolio’s exposure to the risk common
to an entire asset class, such as stocks, bonds,
real estate, or commodities. Diversifying within
an asset class reduces your exposure to risks
associated with a given company, sector,
segment, or location (French and Poterba, 1991).
By spreading investments across and within asset
classes, investors benefit from reducing theoverall volatility of their portfolio, as they are not

Owning a portfolio with at least some exposure
to many or all key market components ensuressome participation in stronger areas while
mitigating the impact of weaker performers.
Figure 5 shows how performance leadership is
quick to change from year to year. It highlights
the importance of diversification in protecting
investors against the lack of predictability infuture returns across different market segments.

Diversification means spreading your money
across different types of investments, and it’s apowerful strategy for managing financial risks(Markowitz, 1959).

FIGURE 5.

Performance leadership changes often and is hard to predict
Equity segments ranked by performance, 2006–2022

Highestperforming
asset class

Lowestperforming
asset class2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 20192020 2021 2022

IRE

EM

EM

IRE

MS

RE

IRE

MS

RE

RE

MS

IRE

RE

LC

MS

RE

EM

RE

DM

LC

MS

RE

LC

DM

LC

LC

LC

LC

DM

LC

MS

LC

LC

DM

DM

LC

RE

RE

IRE

MS

RE

DM

MS

IRE

EM

LC

EM

RE

EM

MS

LC

EM

MS

MS

EM

LC

EM

LC

EM

IRE

DM

RE

MS

IRE

DM

DM

DM

IRE

LC

IRE

DM

DM

EM

DM

MS

RE

EM

MS

DM

EM

MS

IRE

IRE

EM

MS

International
real estate (IRE)

MS

RE

IRE

LC

DM

IRE

EM

IRE

DM

EM

IRE

RE

DM

EM

RE

IRE

RE

U.S. mid- andsmall-cap (MS)

Equity segments
Emerging
markets (EM)Developed
markets
excluding the
U.S. (DM)U.S. large-cap (LC)U.S. real estate (RE)

Notes: Equity segments are represented by the benchmarks as follows: for large-capitalization U.S. stocks (LC), the S&P 500 Index; for mid- and small-cap U.S.
stocks (MS), the Wilshire 4500 Completion Index; for developed markets excluding the U.S. (DM), the MSCI World ex USA Index; for emerging markets (EM),As thereturnshighlights,
predictingof andthe markets
will do well
the MSCI Emerging Market Index;
forpattern
U.S realofestate(RE),
the FTSE
NAREIT which
Equitysegments
REIT Index;
for international
real estate (IRE), the S&P Global ex-U.S.
is also a tough order. Broad diversification keeps you from having too much exposure to theProperty Index.
worst-performing areas of the market in the event of a downturn.
Sources: Vanguard calculations, using data from Morningstar, Inc.
Past performance is no guarantee of future returns. The performance of an index is not an exact representation of any particular investment, as you cannot
invest directly in an index.

12

Key takeaways about balance
1 Choose an asset allocation based on yourwillingness and ability to take risk.

2 Be aware of the tradeoffs between
expected returns and volatility.

3 Investments with higher potential for

growth are typically more volatile. However,assets considered safer, such as cash, bringwith them the risk of not earning returns
large enough to achieve a goal.

4 Diversify broadly, both across asset classes(e.g., stocks and bonds) and within them(e.g., sectors and countries).

13

Cost
Minimize costs.
While markets and financial returns may be hard to predict, one thing investors cancontrol is costs. There are two broad categories of costs investors should try tominimize: taxes and investment costs, which can include expense ratios, transaction
costs, and sales charges. Together, these costs cut into investment returns.
What an investor gets to keep is the balance after
these investment costs and taxes are taken out.
Contrary to the old adage “you get what you payfor,” in investing, it’s lower-cost, tax-efficient funds
that tend to outperform higher-cost options.

FIGURE 6.

Higher costs can significantly depress a
portfolio’s growth
Assuming a starting balance of $100,000 and a yearly
return of 6%, which is reinvested

Reduce cost to help improve returns

Portfolio value$600,000

Small costs can add up to large losses over aninvestor’s horizon (Bogle, 2014). To illustrate theeffect of costs on investment outcomes, we show
a simple investment simulation to fund a goalover 30 years, varying the level of investment
costs. For simplicity, we assume a fixed 6%
nominal rate of return compounded annually. In
all cases, investors have a starting balance of$100,000. The results of this hypotheticalexample are shown in Figure 6.

$557,383$465,899$389,846$317,081

After-cost returns
Costs at 0.1%
Costs at 0.7%

$100,000Costs at 1.3%
Costs at 2.0%

0
0

10

20

30

Years

Notes: The portfolio balances shown are hypothetical and do not reflect any
particular investment. In this example, the accounts return 6% annually, theninvestment costs are taken at the end of the year. The rate of return is notguaranteed. The final account balances do not reflect any taxes or penalties
that might be due upon distribution. Costs are one factor that can impact
returns. There may be differences between products that must be considered
prior to investing.
Source: Vanguard calculations.

14

Figure 6 illustrates how much costs can affectlong-term portfolio growth. In the lowest-cost
scenario, the investor pays 0.1% of assets in
expenses each year; in the other three scenarios,
the investor pays 0.7%, 1.3%, or 2.0%. The
potential impact on portfolio balances over three
decades is quite large. At the end of those 30
years, owning the lowest-cost portfolio means
having a balance that is $240,302 higher thanthe one produced by the highest-cost portfolio.
The ending balance for the lowest-cost portfolio
is also strikingly higher than those of the othertwo portfolios. At $557,383, its ending balance is$91,484 higher than that of the second-lowestcost portfolio, and $167,537 higher than that of
the second-highest-cost portfolio.

Index funds tend to be convenient, low-cost ways
to invest, and they enable investors to reap the
benefits of diversification. This is because theytend to have low expense ratios and low turnover
and are generally tax-efficient. However, theprinciple of managing costs does not preclude
active management. Rather, actively managed
funds with the lowest costs have also
outperformed their higher-cost competitors(Miller, 2007).

FIGURE 7.

Lower costs can support higher returns
Average annualized returns of equity mutual funds,
2012–2022

Lower-cost portfolios tend to outperform
higher-cost ones

Highest cost

One could argue that higher-cost mutual funds
may have better performance than lower-costones to justify their higher fees. However, theevidence is clear: Lower-cost mutual funds havehistorically outperformed higher-cost mutual
funds after costs (Lawrence and Plagge, 2023).
Figure 7 shows the average annualized returns ofequity mutual funds for the period between 2012
and 2022 by cost quartiles.

2nd highest

5.7%

6.6%
Lower-cost
mutual funds
have historicallyoutperformed
higher-cost
mutual funds
after costs.

Fund-costquartile
2nd lowest

7.3%

Lowest cost

The figure shows that lower-cost mutual funds
have outperformed higher-cost funds. Over the
past 10 years on average, the lowest-cost fundquartile had an average annualized return of
8.7%. For the second-lowest-cost quartile, thisfigure was 7.3%; for the second-highest-costquartile, it was 6.6%. Lastly, the averageannualized return for the highest-cost quartile
was 5.7%—substantially lagging its lowest-cost
counterpart.

0

8.7%

10-year annualized return10%

Notes: We considered all equity mutual funds available in Morningstar Directthat survived the period of December 31, 2012, to December 31, 2022,
regardless of where they were available for sale. In total, there were 8,192
funds. Each fund is represented by its oldest share class. Returns are net of
expenses, excluding loads and taxes. We relied on prospectus expense ratios
when they were reported; otherwise, we approximated the expense ratiousing the annual expense net ratio, which is based on the actual fee charged.
By cost quartile, the average expense ratios are 0.57% (lowest-cost quartile),
1.20% (second-lowest-cost quartile), 1.62% (second-highest-cost quartile),and 2.47% (highest-cost quartile). The cutoffs for the equity mutual fundexpense ratios are: 0.90% (25th percentile; lowest quartile), 1.36% (50thpercentile; between second-lowest and second-highest quartiles), and 1.83%(75th percentile; highest quartile).
Sources: Vanguard calculations, using data from Morningstar, Inc.
Past performance is no guarantee of future returns.

15

A simple example of the benefits oftax-planning strategies

Tax management strategies can enhance
after-tax returns

Taxes are potentially another significant costinvestors may face. Investors should look forpotential ways to reduce their tax bill over their
lifetime through wealth-management strategies.
There are many investing and planning strategies
that can add to an investor’s take-home return
without even really changing their investments.
It’s all in how they do it.

A simple hypothetical example may help
illustrate the power of using tax-planning
strategies. Note that this hypotheticalexample does not reflect any particular typeof taxation of accounts and rates of returnare not guaranteed.
As a base case, we assume an investor witha starting balance of $100,000 earning anannual return of 6% for 30 years. The
investment cost is 0.10% a year.

Investors around the globe often have access toaccounts that provide tax incentives for certain
types of savings. Maximizing these opportunities
can go a long way toward generating long-term
after-tax wealth. Tax-advantaged investment
accounts such as retirement accounts areexamples of strategies that can help someinvestors build their wealth by benefiting from alower overall rate of tax relative to holding thesame assets in taxable accounts. If investors havemultiple investment accounts, the value of asset
location—the thoughtful placement of assets
across different investment accounts according totax efficiency—may add further value to theirportfolios (Padmawar and Jacobs, 2022).

We assume an effective tax rate of 25% overthe investment period when a tax-advantaged
account is not used. The effective tax rate
may include capital gains tax, dividend tax,
or transfer tax, among other taxes. (Forsimplicity, we impose the effective tax rate
at the end of the investment period.) At theend of the period, this investor would haveamassed $418,736.
Now consider the scenario in which the sameinvestor uses a tax-advantaged accountinstead, which would bring down the effective
tax rate to 10%. Over the same 30 years, theinvestor would have amassed $502,483.
Put another way: Using a tax-advantaged
account would have earned the investor an
additional $83,747. This difference in wealthis equivalent to an additional 0.64 percentage
points in average annual returns.

Investor behavior may also play a role in reducing
taxes and cost in general. By reducing the amountof transaction activity, investors may be less likely
to pay transaction costs and may be able todefer or even avoid future tax costs in somecases. It may also be possible to reduce theimpact of taxes by trading in a tax-advantaged
investment account.

In a hypothetical situation in which aninvestor can completely shield investmentsfrom taxes through a tax-advantaged
account or other tax-planning strategies, theywould have amassed $558,314. In this case,the tax-advantaged account would haveearned an additional $139,579 compared to ataxable account with an effective tax rate of
25%. This difference in wealth is equivalent toan additional 1.01 percentage points inaverage annual returns.

There can be substantial value to investors in
exploring the tax-efficient opportunities available
to them. But how these opportunities can beused depends on where an investor lives, what’s
available in their country, and their personal
situation. For example, a tax-advantaged
investment vehicle that requires monies beinvested for a specific period of time may notsuit someone who wants to reach a goal before
that period ends.

As shown in this example, planning for yourfuture goals with an eye to controlling tax
costs may provide significant benefits overtime in terms of after-tax wealth.

16Key takeaways about cost
1 Investors cannot control market movements,
but they can keep more of their returns by
reducing investment costs and taxes.

2 The lower the investment cost, the greater
the share of returns investors get to keep.

3 Lower-cost investments have historicallyoutperformed higher-cost alternatives.

4 To hold on to even more of market returns,
manage for tax efficiency.

17

Discipline
Maintain perspective and long-term discipline.
Discipline in investing is the ability to adhere, over time, to an investment plan.
Once investors have created a plan by defining their goals, choosing an appropriate
asset allocation, and minimizing costs, discipline is what will help them get closer toachieving their objectives.
Investing evokes strong emotions that canlead to impulsive decisions—panic selling duringmarket volatility, for example. Emotional
reactions to market ups and downs are natural,and to some degree, they are outside our control(Lo, Repin, and Steenbarger, 2005). What we cancontrol, however, is whether to act on these
emotions or not. When investors can arm
themselves with a long-term perspective andremain disciplined in executing their investment
strategy, they can avoid potentially harmful
emotional decisions.

Over the course of the investment plan, we
believe that investors should periodically monitor
and review their plans to ensure that their goals
remain relevant and realistic.

The power of regular and increasing
contributions

Making regular contributions to a portfolio, andincreasing them over time, can have a powerful
impact on long-term results (Bruno and Zilbering,
2011.) It’s widely known that compound interest
is one of the most powerful engines for wealthaccumulation. However, less talked about is thepower of increasing contributions over time.
By allocating to an investment account a partof an increase in salary, an annual bonus, a gift
to an institution, or any extra income earned, an
investor is taking advantage of the opportunity
to earn investment returns on these additionalsavings. The combination of compound interestand increasing contributions is a powerful lever inachieving financial goals.

Four core components of remaining disciplinedwith an investment strategy include:
1. Making regular investment contributions.
2. Staying invested through volatile times.
3. Rebalancing to manage risks and maintaina suitable asset allocation.
4. Having a plan for disciplined spending of
the investment portfolio.

18

To understand the effect of regular and increasing
contributions on the balance of an investment
portfolio, we ran a simulation of three cases tofund a goal of $500,000 (in today’s dollars,
adjusted for inflation). All cases start with an
initial investment of $10,000 and additional
annual contributions of $5,000. Differences arethen added, to create three scenarios:

Figure 8 shows the results: Increasing your savings

contributions can be more powerful than relying
on taking additional risk for the potential ofhigher performance.
Figure 8 shows that in Scenario 1, with a 4%
annual real return and a constant investment of$5,000 a year, it would take the investor 69 years
to achieve their goal. However, in Scenario 2,
which keeps the same annual return but increases
savings by 5% each year, the investor would
achieve their goal in 39 years, reducing the timeto goal achievement by 30 years.

Scenario 1 (baseline). No increase in annual
contributions (no savings increase); annual returnof 4% over inflation.
Scenario 2 (higher savings). Annual 5% increasein contributions (savings increase); annual returnof 4% over inflation.

Interestingly, Scenario 3—where the investor
keeps the annual contribution at $5,000 andassumes more risk to earn a 6% annual real
return, but still takes 45 years to achieve theirgoal—underperforms Scenario 2.

Scenario 3 (higher investment return). No
increase in annual contributions (no savings
increase); annual return of 6% over inflation.

Together, these three scenarios show that saving
more is a powerful lever to achieve financial goals.

FIGURE 8.

A higher contribution rate, consistently maintained, can be a powerful factor inachieving objectives
Years needed to reach $500,000 using different contribution rates and market returns (assuming an initial
contribution of $10,000 and annual contributions of $5,000 to start)$500,000Years required
to save$500,000

39 years

45 years

69 years

Scenario 2: Higher savings

Scenario 3:
Higher return

Scenario 1: Baseline

4% annual return
5% savings increase

6% annual return
0% savings increase

04% annual return
0% savings increase

Time

Notes: Each scenario starts with an initial contribution of $10,000 made in Year 1, with the first annual contribution of $5,000 made in Year 2. Annual returns
assumed are over inflation. The portfolio balances shown are hypothetical and do not reflect any particular investment. There is no guarantee that investors will
be able to achieve similar rates of return. The final account balances do not reflect any taxes or penalties that might be due upon distribution.
Source: Vanguard.

19

Staying invested through volatile times

stock-bond asset allocation during the COVID
market decline in March 2020. We assume thatsome investors abandoned their original asset
allocation of 60% stocks and 40% bonds in March
2020 at the bottom of the market and moved to100% cash until the market recovered in July
2020, when they moved back to their starting
asset allocation. Figure 9 shows the drag inreturns that investors experienced if theyabandoned their investment plan.

The financial media constantly report oninvestment returns and often with moreemphasis on losses rather than gains. Naturally,
people tend to associate investment success withstrong investment returns. However, short-term
market returns are unpredictable and outside aninvestor’s control. So, tuning out the noise helps
maintain discipline.
In volatile markets, with very visible winners andlosers, switching investment plans is anotherdangerous temptation. The appeal of altering aportfolio’s asset allocation in response to shortterm market developments can be strong. This is
the danger of hindsight: “Opportunities” tend to
be clear in retrospect and rarely visible before
then. Many investors chase performance andfocus on market movements to buy the“winners” and sell the “losers,” which rarely ends
in success (Odean, 1999). However, this behavior
can be avoided by sticking to an establishedinvestment plan that includes balanced anddiversified asset allocation coupled with steady,recurrent contributions.

Figure 9 shows two paths: (1) sticking to one’s
asset allocation and (2) abandoning one’s plan,
if only for a few months. Investors who stuck totheir original asset allocation during the March
2020 sell-off recovered more quickly and earned
superior returns than investors who moved to100% cash for those months.
The emotional impact of trying to time the market
should also be considered. The investor who
abandons their investment strategy can end up
with stress over how to “best” time their reentry
into the market—and they often endure this stressat a time when valuations are higher than when
they exited, meaning their account is lower than it
would have been had they stayed invested.
Essentially, the time and stress of trying to time
markets does not guarantee a better outcome.

The recent past has given a classic example of thecost of exiting the market during volatile periods.
Figure 9 shows the impact of fleeing a 60/40

20

FIGURE 9.

The importance of maintaining discipline: Reacting to market volatility can jeopardize returns
What if investors shifted to cash at the bottom of the COVID downturn and stayed there until themarket recovered?
50%

Portfolio return
COVID downturn
What if investors moved to100% cash from the bottom of
the market in March 2020 until
the recovery in July 2020?

40

21%

30

return forinvestors
who kept60%/40%stock/bondallocation

20

10

–2%

return forinvestors who
fled to cash fromMarch 18, 2020,
through July 28,
2020

0

–10
Jan.
2018

Jan.
2019

Jan.
2020

Jan.
2021

Jan.
2022

Dec.
2022

Notes: Stocks are represented by the MSCI All Country World Index; bonds are represented by the Bloomberg Global Aggregate Bond Index (USD Hedged).
Cash is represented by the Bloomberg U.S. Treasury 1–3 Month U.S. Treasury Bill Index. Returns are in nominal terms.
Sources: Vanguard calculations, using data from Morningstar, Inc.
Past performance is no guarantee of future returns. The performance of an index is not an exact representation of any particular investment, as you cannot
invest directly in an index.

21

Rebalancing to manage risks and maintain asuitable asset allocation

allocation—ensuring that the investor doesn’t end
up with a portfolio that differs from its original
allocation because of market movements.

Asset allocation is one of the most crucial
decisions for achieving an investment goal. But
it’s only effective when the allocation is adhered
to over time and through varying market
environments. Rebalancing is the process
designed to help keep portfolios in balance. It
may involve selling out of some assets and buying
others to achieve the desired balanced asset

An investor’s risk exposure can growunintentionally when a portfolio is left to drift
during periods of strong performance of theequity market (Brennan and Woerth, 2021).
Figure 10 shows a portfolio that has not been
rebalanced since its initial 60/40 allocation in
2002; in the 20 years since then, its equity portion
has increased.

FIGURE 10.

Failing to rebalance a portfolio could result in higher drawdowns
Asset
allocation

100%
Bonds
40%
11%

7%

5%

8%

16%

Additional equity(risk) exposure
A portfolio that's notrebalanced regularly may
end up with a higher equity
allocation than desired,exposing the investor to therisk of a larger drawdown.

60%

Equity0
Maximum drawdown

2002

2006

2010

2014

2018

2022

–21%

–27%

–23%

–24%

–25%

–30%

Notes: The initial allocation for the portfolio is 60% stocks/40% bonds as of December 31, 2002. Equity is nominal equity return, which is the DMS Real World
Equity Total Return adjusted by DMS World Inflation. The allocation’s maximum drawdown is taken from the period with the greatest equity drawdown during theperiod between 2002 and 2022, which happened in 2008. A drawdown refers to the decline in value of an investment from its peak to its subsequent trough.
Sources: Vanguard calculations, using DMS global returns data from Morningstar, Inc. (the DMS World Equity Index and the DMS World Bond Index, in bothnominal and real terms). The dataset includes returns from Australia, Austria, Belgium, Canada, China, Denmark, Finland, France, Germany, Ireland, Italy, Japan,
the Netherlands, New Zealand, Norway, Portugal, Russia, South Africa, Spain, Sweden, Switzerland, the United Kingdom, and the United States.

22

The power of disciplined spending

From 2002 to 2006, the equity exposure of theportfolio has increased to 71%, resulting in an
additional equity allocation that is 11 percentage
points above the desired target of 60%. If notrebalanced, the same portfolio would havereached a 76% equity and 24% bond allocation in
2022. This increase in equity exposure may resultin the investor experiencing greater swings ofvolatility in the value of their portfolio thanoriginally planned, potentially exposing theinvestor to larger losses in the short run thanwould be expected from their initial asset
allocation of 60% equity and 40% bonds.

For investors drawing down their investment
portfolio who may have an investment goal of
meeting a specific target to fund their objective,
it’s important to ensure that the targeted
spending amount remains in check over time
(Jaconetti et al., 2021).
Unfortunately, spending more than the targetedamount may derail the reaching of longer-termgoals. The more that is withdrawn each year inexcess of the target, the less that remains
available to be invested and to generate returns
to support the ongoing drawdown requirements(Khang and Pakula, 2022).

For most broadly diversified portfolios, werecommend checking the mix of investments
at least once a year (Zhang et al., 2022) andrebalancing if the asset allocation has deviatedmeaningfully from the target asset allocation(Jaconetti, Kinniry, and Zilbering, 2015).

It can be especially difficult to remain disciplinedwith spending targets during periods ofheightened inflation or when faced withchallenging situations. But by maintaining a
conscious spending plan, investors can help
ensure that the wealth they’ve accumulated
remains sufficient to achieve their goals.
If spending targets can’t be maintained, it may benecessary to review the longer-term goals andthen adjust the investment strategy accordingly.

23

Regularly monitor and review investment goals

Investors should review their goals at regularintervals, to make sure the goals are still relevant
and realistic, and that they are on track to reachthem. A regular monitoring and review of goals
is important for all investors—both those whoare building their wealth, and those who are
drawing on their wealth. The frequency of thismonitoring depends on how actively an investor
wants to manage their investment plan. An
annual review should be the minimum, but major
events or transitions may also be occasions forthese check-ins.
In the end, reviewing an investment plan provides
investors with a clear opportunity to change
course as needed and ensure that they are giving
themselves the best chance for investment success.

24Key takeaways about discipline
1 Investors should keep a long-term

perspective grounded on discipline by:• Making regular investment contributions
to achieve their goals.

• Staying invested through volatile times.
• Rebalancing to manage risks andmaintain a proper asset allocation.

• Having a targeted spending plan fromtheir investment portfolio.

2 Over time, investors should also review

the progress made toward their goals,
ensure that these goals remain relevant
and realistic, and adjust course, if needed,following the principles outlined here.

25Conclusion

These four principles have guided many investors
through the numerous ups and downs of market
cycles. They are designed to help investors stayon track to achieve investment success byfocusing on things within their control.

We believe that Vanguard’s Principles for Investing
Success can provide a solid framework for any
investor to improve their chances of investment
success—whether they are new to investing, very
experienced in it, or somewhere in between.

These principles are:Headlines and emotions can be distracting,especially when there’s so much information andso many opinions about how to invest and what
to invest in.

1 Goals. Create clear, appropriate
investment goals.

2 Balance. Keep a balanced and diversified mix
of investments.

3 Cost. Minimize costs.
4 Discipline. Maintain perspective and longterm discipline.

26

Glossary

Cash investment

A short-term debt instrument—such ascommercial paper, a banker’s acceptance, or agovernment bill—that matures in less than one
year. Cash instruments are also known as “money
market instruments” or “cash reserves.”

Active management

An investment strategy that seeks to outperformthe average returns of the financial markets.
Active managers rely on research, market
forecasts, and their own judgment andexperience in selecting securities to buy and sell.

Cash position

The percentage of an investment fund’s
assets invested in short-term reserves, suchas government bills or other money market
instruments.

Asset

Any property that has monetary value. Personal
assets include securities, real estate, jewelry, andbank accounts.

Country allocation

Asset class

The percentages of a fund’s net assets allocatedto securities of various countries. These
percentages serve as an indicator of a fund’s
diversification and its vulnerability tofluctuations in foreign financial markets orcurrency exchange rates.

A major category of financial securities. The threemajor asset classes are cash investments (alsocalled cash reserves or money market
instruments), bonds, and stocks.

Asset allocation

The apportioning of investments among various
asset classes, such as short-term reserves, bonds,
and stocks. Also known as “asset mix” or“investment mix.”

Country diversification

BenchmarkDiversification

The percentages of a global or international
portfolio’s assets invested in securities ofvarious countries.

An unmanaged group of securities whose overall
performance is used as a standard to measureinvestment performance.

The strategy of investing in different asset
classes and among the securities of many issuersin an attempt to lower overall investment risk.

Bill

Drawdown

A short-term discounted security issued bygovernments, usually with a maturity of one year
or less.

The decline in value of an investment from its
peak to its subsequent trough.

Emerging market fundBond

A debt security (IOU) issued by a corporation,
government, or government agency in exchange
for the money the bondholder lends it. In most
instances, the issuer agrees to pay back the loan
by a specific date and make regular interest
payments until that date.

An investment fund that invests primarily incountries with developing economies (that is,
those that are becoming industrialized).
Emerging markets funds tend to be more volatile
than domestic stock funds because of currency
fluctuation and political instability. Consequently,
fund prices can fluctuate dramatically.

Capital gain/loss

EquityThe difference between the sale price of anasset—such as a mutual fund, stock, or bond—andthe original cost of the asset.

In investing, ownership in a company. Often used
as a synonym for “stock.” (See “Stock.”)

27

Expense ratio

Market risk

The percentage of a portfolio’s average net
assets used to pay its annual expenses.

The possibility that stock or bond prices overall
will decline over short or even extended periods.
Stock and bond markets tend to move in cycles,with periods of rising prices and periods of falling
prices.

Fixed income security

An investment, such as a bond, that has specificinterest rates.

Market timing

Index

An unmanaged group of securities whose overall
performance is used as a standard to measureinvestment performance.

An investment strategy based on predicting
market trends. The goal is to anticipate trends,
buying before the market goes up and selling
before the market goes down.

Index fundMid-capitalization (“mid-cap”) stock

Generally, a mid-cap stock is a stock issued bycompanies with market capitalizations between$2 billion and $15 billion. The cutoffs between
large-, mid-, and small-cap companies fluctuatewith market conditions.

A passively managed investment fund that seeks
to parallel the performance of a particularmarket index.

Indexing

An investment strategy that seeks to match,rather than outperform, the return and risk
characteristics of an index, by holding all
securities that make up the index or a statistically
representative sample of the index. Also known
as “passive management.”

Nominal return

The return on an investment before adjustment
for inflation.

Portfolio

Inflation

A general rise in the prices of goods and services.

All the securities held by an investment fund or
the total investment holdings of an individual oran institution.

Inflation risk

Portfolio diversification

A profit on the sale of a security or mutual fundshare that has been held for more than one year.

The strategy of investing in different asset
classes and among the securities of many issuersin an attempt to lower overall investment risk andto avoid the chance that a portfolio’s
performance would be hurt by the poor
performance of a single security, industry, or
country.

Market capitalization

Principal

The possibility that increases in the cost of living
will reduce or eliminate the returns on aparticular investment.

Long-term capital gain

The amount of money originally put into an
investment.

A determination of a company’s value, calculated
by multiplying the total number of company stock
shares outstanding by the price per share. Also
called “capitalization.”

Real return

The return on an investment after adjustment
for inflation.

28

Rebalancing

Small-capitalization (“small-cap”) stock

Obtaining the desired fund makeup in a planaccount by shifting the balance to match thecontribution allocation percentages alreadychosen. May involve selling out of some funds andbuying others to achieve the desired balance.

The stock of a company whose market value,according to Vanguard, is less than $1.7 billion.
Small-cap companies tend to grow faster thanlarge-cap companies and typically use any profits
for expansion rather than for paying dividends.
They also are more volatile than large-cap
companies and have a higher failure rate.

ReturnThe change in the value of an investment,
expressed as a percentage, over a specified
period. Return can be calculated in several ways;
for example, to account for the reinvestment ofdividends and capital gains (total return), toaccount for inflation (real return), or to accountfor risk (risk-adjusted return).

Standard deviation

A measure of the degree to which a fund’s return
varies from its previous returns or from theaverage of all similar funds. The larger the
standard deviation, the greater the likelihood(and risk) that a security’s performance willfluctuate from the average return.

Risk

Stock

The potential to lose money (principal and any
earnings) or not to make money on an investment.

A security that represents part ownership,or equity, in a corporation. Each share of stock
is a proportional stake in the corporation’s
assets and profits, some of which could be paidout as dividends.

Risk-return trade-off

The tendency for potential risk to vary directly withpotential return, so that the more risk is involved
the greater the potential return, and vice versa.

Target asset mix

Risk tolerance

An investor’s ability or willingness to endure
declines in the prices of investments while waiting
for them to increase in value.

The percentage mix of stocks, bonds, and shortterm reserves that an investor considers
appropriate based on personal objectives, time
horizon, risk tolerance, and financial resources.

Sales charge

Transaction cost

Cost to access a given fund.

Expenses incurred when buying or selling a security.

Security

Transaction fee

A charge assessed by an intermediary, such as a
broker-dealer or a bank, for assisting in the saleor purchase of a security.

Any stock, bond, money market instrument, orother investment vehicle.

Short-term capital gain

Volatility

A profit on the sale of a security or mutual fundshare that has been held for one year or less.

The degree of fluctuation in the value of an asset.
The greater an asset’s volatility, the wider thefluctuations between its high and low prices.

Withdrawal

Money taken out of an account.

29References

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Lawrence, Stephen, and Jan-Carl Plagge, 2023.
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Bennyhoff, Donald G., 2009. Did Diversification Let
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Lo, Andrew W., Dmitry V. Repin, and Brett N.
Steenbarger, 2005. Fear and Greed in Financial
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Bruno, Maria A., and Yan Zilbering, 2011. Penny
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Odean, Terrence, 1999. Do Investors Trade Too
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Tidmore, Chris, and Andrew Hon, 2020. Patience
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Jaconetti, Colleen M., Francis M. Kinniry Jr., and
Yan Zilbering, 2015. Best Practices for Portfolio
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Zhang, Yu, Harshdeep Ahluwalia, Allison Ying,
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McShane, and Nathan Zahm, 2021. Vanguard’s
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Decision-Making in Retirement. Valley Forge, Pa.:The Vanguard Group.

30

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