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Investment Strategies
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How Should I Allocate My Assets?
Overall asset allocation is the most important determinant of your investment returns. Focus your efforts accordingly.
The Basics of Portfolio Design
I can't give you an exact formula, but if you start with something like 20% domestic stocks, 20% international stocks, 20% bonds, 20% real estate, and 20% commodities & precious metals, then adjust this allocation accordingly for your age and risk preferences, never investing more than half of your assets in any one country, including the U.S., you should be on the right track to sleeping well at night.
The Rewards of Multiple Asset Class Investing
This article demonstrates how adding commodities, real estate, and international stocks to your portfolio of plain vanilla stocks and bonds increases returns and significantly reduces overall risk.
Surprisingly, after clearly illustrating the case for wide diversification, the author retreats slightly towards a more "traditional" allocation. His reasoning: he knows many of his clients would rather lose money when their friends are losing than to follow a superior long-term strategy that may at times under perform their peers.
Few investment advisors will recommend that their clients stray very far from industry asset allocation norms even though it would mean higher returns and less risk in the long run. The investment advisors know that if they can just keep their clients near the market averages, they can keep far more clients than they otherwise would when the inevitable off-year comes around. It's all about short-term, relative performance these days.
Standing out from the crowd is not for everyone. Whatever asset allocation you choose, make sure you have the stomach to stick with it through good times and bad. If it doesn't feel right in your gut when the market is going against you, it probably makes sense to rethink your long-term strategy.
Strategic Asset Allocation and Commodities
2006 Ibbotson study analyzing the effects of commodities on portfolio returns and volatility, concluding that relatively large portfolio allocations to commodities (up to 25%) have historically improved returns and lowered portfolio volatility.
1982 to 2000 was the biggest stock and bond bull market in history. Huge bull markets are historically followed by long bear markets. Maybe "this time it's different", but just in case......
Depends how long your "long run" is.
What if Everything You Knew About Stocks Was Wrong?
We've all seen the popular chart showing how rich we would be if we had owned stocks "for the long run" between 1926 and 2000. But have any real people actually earned those returns? History doesn't owe us 10% per year.
Warren Buffet on The Stock Market
Timeless wisdom from the greatest investor of all time on what really makes the market tick. For more insight from Warren Buffet, check out this archive of Berkshire Hathaway annual shareholder letters.
Sage investment analysis and advice from one of the masters.
Contrarian insight from the pioneer of global value investing.
The bull market in paper is over and the "stuff" bull market has begun, says Clyde Harrison. A bit of a rant, but provides a nice historical perspective on where markets have been relative to each other and where they might be going (or not going).
Where Stock Market Returns Really Come From
After adjusting for inflation: mainly dividends.
The Likelihood of Below Average Stock Returns
The stock market's long term average return since 1926 has been 10.4%. But that was starting from a p/e ratio of 10 and a dividend yield of 4.5%. The market's return consists of three components: dividend yield + earnings growth + percentage change in p/e ratio, which at today's valuation levels gets you to a best case scenario of around 6% going forward (before inflation).
It isn't to build wealth, it's to have wealth. The dollar can collapse, the Fed can inflate to the heavens, the U.S. can invade more countries, World War III can break out, the world can lapse into a deflationary depression, stocks can crash or climb to the sky........ Gold will still represent wealth.
Jim Rogers, the man who co-founded the Quantam Fund and helped make George Soros a billionaire, makes the case for commodities.
Over 70% of the S&P 500 companies have defined benefit pension plans. The retirement wave is coming and the plans are under funded. Do you own the company's stock or do the retirees?
"You Can't Go Wrong in Real Estate"
It's all fun and games until interest rates start rising.
Is it "Different This Time" for Housing?
Based on these charts certain homeowners better hope so. Make sure you aren't overleveraged if and when the bicoastal housing bubble bursts.
How to Go Broke in Real Estate
Three easy ways to lose your shirt.
You Might Be In a Housing Bubble If....
A 10-foot-wide shed with no ground floor windows sells for $269,100.
Is Your House Really a Good Investment?
A closer look at the numbers may surprise you. A better way to think about your house is as an expense- one that, if you're lucky, will pay you a rebate when you're done with it.
What a True Stock Market Bottom Looks Like
New York Times article from 1982 just before the great boom began. The Dow was selling for less than 80% of book value and the P/E Ratio on the Dow was 6.5. Now that's a market bottom.
Rising Interest Rates and Bond Prices
As obvious as it seems that interest rates will rise long term, there is no way to guarantee they won't decline over the next few years (think Japan). If you're convinced interest rates are going up, switch to bonds with shorter maturities or consider hedging with an inverse bond fund, but don't try to outguess the market.
The Effect of Population Trends on Stock Prices
There is a significant correlation between stock market price-to-earnings ratios and the percentage of the overall population ages 45-49. As the baby boomer generation matured, they drove stock p/e ratios up to record highs. Watch out when the boomers start retiring in 2008.
Active vs. Passive Investment Management: Which is Better?
Despite what the mutual fund industry would have you believe, the actual track record of active investors is not impressive. Between 1984 and 2002 the S&P 500 index returned an average of 12.2% per year. According to a DALBAR study, the average equity investor earned annual returns of only 2.6% during this period, which was less than the inflation rate of 3.1%. The average equity investor would have done better in bank CD's, which paid an average of 5.8% over the period.
Capitalization weighted indexes allocate a larger portion of their assets to the highest market cap stocks in the index. The problem is that the highest cap stocks tend to under perform the rest of the index going forward. This creates a 2-4% annual drag on index returns.
Pay Down Mortgage Debt or Invest the Money in the Market?
Financial planners will debate this one until the end of time. When in doubt, I say keep it simple and pay down the mortgage. One thing is pretty clear: borrowing money on your mortgage to invest in bonds is generally a losing proposition. The risk-adjusted interest you receive on the bonds will almost always be less than the interest you are paying on the mortgage. With the exception of establishing a safety fund for emergencies, pay down your mortgage before you invest in bonds.
Three Reasons Not to Save Money in Your Child's Name
Not to mention that the cost of preparing the extra tax return is often more than the tax savings from the lower tax bracket.
The Silent Killer: Advisory Fees
Add up fund operating expenses, financial planner fees, higher taxes from fund turnover, trading costs, cost of cash, and pretty soon you're looking at a 3% or greater annual drag on your portfolio returns.
Article on how stock brokers really make their money and the conflicts of interest inherent in the traditional broker-client relationship. Scroll about half way down on this page to the part on "Commission-Based Trading".
For the record, the author's suggestion that CPA's should become more involved in client investment decisions is questionable since investment knowledge is not a prerequisite to becoming licensed as a CPA. True, CPA's don't have a conflict of interest, but neither does your barber, and you wouldn't let him manage your money. I personally know many horrible investors who are CPA's. It's pretty bleak out there, but if you have to choose one professional to trust on investments, I'd say trust your Certified Financial Planner, as long as he or she earns money on flat fees rather than commissions.
Are Indexed Annuities a Good Deal?
The pitch sounds great: if the stock market goes up you make money, if it goes down you don't lose any money. Feels like something for nothing. The reality is that risk and return are absolutely correlated. When you buy an indexed annuity you are paying an insurance company to assume risk for you. The insurance company is also paying a hefty commission to the person selling the annuity to you. This commission ultimately comes out of your pocket. In the long run there are more cost efficient ways to minimize market risk. However, there are certain situations where these products can make sense. Also see here for a comprehensive article index on indexed annuities.
Exorbitant fees, poor disclosure and/or fraud, unfavorable tax consequences, and high risk to name a few. Betting on currencies, bonds and stock indices is a zero-sum game. For every derivative trade made by one hedge fund, a financial institution or another hedge fund must take the other side of the trade. For every winner there is a loser. When extremely high leverage is used, a wrong bet can blow up the entire fund. After adding in annual fees of 1-2% of assets plus 20% of the profits, are investors really getting the best value?
Don't Expect Special Attention with Separate Accounts
In theory, a customized portfolio of stocks and bonds chosen and monitored by a professional money manager can offer tax-planning advantages that mutual funds aren't able to provide. The reality is that as investment minimums for these accounts have dropped, so has the level of personalized attention. Many people think that a manager is looking at their account daily, but usually the managers are using a buy list of stocks to make periodic, across-the-board changes to all their clients' accounts at once. Investors end up with a generic portfolio based on whatever investment objective they are classified under.
A New Kind of Investment Risk: Money Manager Career Risk
Investment managers have families to feed too. Despite the best of intentions, the ultimate goal for most money managers is to keep their job. The most practical way to do this is to never stray too far from the herd, even when the herd is buying tech stocks at 100 times earnings. When the general public has unrealistic investment expectations, even the most honest of money managers can have an inherent conflict between doing what is right for their business and doing what is right for you.