Long term investment returns aren’t created out of thin air, here are 7 investment principles you can use as a savvy investor.

You can enhance the long-term investment returns of your portfolio by using these 7 core investment principles.  They’ve long been part of our investment philosophy, and we employ them every time we manage the portfolio of a client of our Successful Investor Wealth Management service.

1. Compound interest is king

Compound interest—earning interest on interest—can have an enormous ballooning effect on the value of an investment over the long term, and lift the overall returns on your portfolio.

This applies to equity investments like stocks, as well as to fixed-return, interest-paying investments like bonds. When you earn a return on past returns (including dividends), the value of your investment can multiply. Instead of rising at a steady rate, the number of dollars in your portfolio will grow at an accelerating rate.

There are two conclusions you should draw from this investment principle.

First, you need to pay attention to steady drains on the capital in your portfolio, even seemingly small ones—like high brokerage commissions, say, or a high MER on a mutual fund. If your portfolio is losing (or missing out on a profit of) even 1% a year—the difference between a 2% MER and a 3% MER—it can have an enormous draining effect. It can eat up a surprisingly big chunk of your portfolio in a decade or two.

Second, you can’t expect to earn an outsized return on an investment in your portfolio indefinitely. If you did, you’d wind up with a measurable fraction of all the money in the world, and nobody ever does that (see investment principle #2). Instead, focus on making steady gains over time.

2. Regression to the mean is inevitable

No investor and no investment can earn an outsized return indefinitely. Eventually, a high yearly return will come back down toward average. Sometimes, it will gain momentum and keep falling until it drops far below average, or turns into a loss in your portfolio. Abnormally high long term investment returns don’t last forever. Pay attention to your portfolio and don’t be afraid to get out of a failing stock.

3. Insider actions dictate integrity

No investment can ever be so undervalued or desirable that it overcomes a lack of integrity on the part of company insiders. If you have any doubts about the integrity of insiders, sell immediately.

4. Investment long shots will always cost you money

As a group, investment long shots are overpriced. If you have nothing but long shots in your portfolio, you are likely to make meager returns or lose money over long periods, rather than making the high returns you seek. That’s why you need to be particularly cautious and selective when adding anything to your portfolio that offers the potential of unbelievably high long term investment returns.

5. Financial incentives can influence people negatively

Financial incentives have an enormous impact on the beliefs of otherwise honest people, particularly when it comes to what they are willing to say in order to spur you to buy something. If you fail to spot these conflicts of interest, it could be very damaging to your portfolio.

We’re not just talking about stockbrokers. As the saying goes, never depend on your barber to tell you that it’s too soon for you to get your hair cut. To make those long term investment returns really matter, you need to know the rules of the game. Money motivates people to sell all kinds of financial products that are set up to take your money.

6. Some markets are inherently unpredictable   

The markets for fungible goods like oil, interest rates and gold are inherently unpredictable.

Markets like these are so enormous that there is no practical limit to how much you can trade in them. It follows that if you could predict them, you could wind up acquiring a measurable proportion of all the money in the world, and nobody ever does that. That’s why it’s a mistake to build your portfolio in such a way that you have to accurately predict the future direction of fungible goods like oil, interest rates or gold.

7. Equities win in health economies

In any reasonably healthy economy, equities will always give you a higher return than bonds.

There is a self-regulating mechanism at work that guarantees this. If it didn’t work that way, everybody would prefer bonds (with their predictable returns) over stocks (which have variable returns). Interest rates would then fall down toward zero, and virtually all the economy’s profits would flow to stockholders.

That’s why it pays to invest in bonds only during times when you must have steady returns, or when interest rates are unusually high. The rest of the time, with rare exceptions, you’re better off in stocks.

In what ways are you hoping to boost your long term investment returns? Are you particularly excited about a certain sector, or maybe a company in particular? Share your thoughts and experience with us in the comments.