You can't consistently beat the market. Just ask Harvard.

Harvard University has been lamenting a substantial loss in the value of their endowment.  Apparently about $2 Billion.   See:http://www.chronicle.com/article/What-a-2-Billion-Loss-Really/237965

Harvard has chased all sorts of exotic strategies, including private equity and hedge funds and yet - to quote the above article:

"...if Harvard had passively invested in a standard mix of 60 percent stocks and 40 percent bonds, it would have gotten a higher rate of return — 8.9 percent over the past five years, versus 5.9 percent with its active in-house management, according to The Boston Globe."

What's worse, is that Harvard was paying its money managers millions to come up with these strategies.   While Harvard is clearly one of the premier academic institutions in the world, this status does not give it the ability to beat the market.  Other institutions (I'm looking at you NC Pension Fund) would do well to learn from this.

The efficient frontier works ... in the long run.

Wonderful post by Cliff Asness that shows in the short run the basic tenets of risk and return seem to get all jumbled up (bonds earning more than stocks, etc), but in the long run it all works out.

That's the point.   In the long run it all works out.   Trashing finance theories because they didn't work this week is stupid.  As is basing asset allocation decisions on short term performance and market conditions.  

Here's the conclusion it all of its finance theory supporting beauty.

A 30 second course on asset allocation

From Josh Brown:  http://thereformedbroker.com/2014/11/06/thirty-second-course-on-asset-allocation-2/

Josh cites Jeremy Siegel's classic "stocks for the long run" which argues, that over any 30 year period, stocks virtually always beat bonds.   Still this doesn't mean that everyone should be 100% stocks - a topic that I've blogged on quite a bit over the years.   You can see my old posts here:

http://financeclippings.blogspot.com/search?q=stocks+for+the+long+run

No - Twitter has not gone public yet ...

... but that fact didn't stop some investors from trading TWTR (an unrelated penny stock).    

See also here.

HT:Mitch (One of my online MBA students).

Luck in money management

Great piece on the role of luck in money management.  

Bottom line - it is virtually impossible for an individual investor to determine whether an investment manager's performance is due to luck or skill.  Yet investors (small and large) continue to line up to pay handsome fees to managers who, as far as we know, just got lucky.

The case for passive investing

This is a great video advocating for passive (or index fund) investing.   The film is made for a UK audience but is applicable to anyone who invests anywhere.  

While the film was funded by an investment management firm, it is accurate and not misleading.  The points they make are correct and are borne out by the academic research.

Finally it is worth watching just because you get to see some of the big names in finance - Jack Bogle, Ken French, David Booth (Chicago B School named for him), and of course Bill Sharpe - the guy who developed the CAPM and got the Nobel.

Via: Reformed Broker

SEC says stock picking should be left to the pros

A rather humorous take on a recent SEC study on "retail investors" - that's you and me (in academic finance they - we - are called "noise traders").    Bottom line, many US retail investors are seriously financially illiterate.

Yet another reason to index, if you needed one.



HT Felix.

Buy and hold - dead or alive?

My colleague, Craig Newmark, has two on the death (or not) of buy and hold investing.

I am clearly in the buy and hold camp.   There isn't really a better alternative unless you have a time machine.

IQ and Investing

Robert Shiller discusses a recent Journal of Finance article that finds a link between IQ and the amount of exposure to stocks an individual has in his/her retirement portfolio.

Shiller concludes that what is needed is more financial education.  I couldn't agree more.

Stocks for the long run?

A recent post on the Fama French Forum asks "over what time period can you be reasonably assured of earning a positive premium for investing in small stocks?"  In other words, how long do you have to wait for the extra risk of small stocks to pay off?  F&F state that like the equity premium overall, you probably have to wait 35 years to be reasonably confident of seeing a positive premium.  But they add that of course, there is still a possibility that after 35 years equities could still trail bonds.

What does this mean for a typical investor?  First of all, most investors look to stocks to provide a higher return  to enable them to reach their retirement goals.  But such a return isn't guaranteed and indeed, may never materialize, particularly over shorter time horizons.  The second issue is that while we know what the historical risk premium is, i.e. the amount by which stocks beat bonds, we really don't have much idea what the future premium will be.   Therefore, investing for the long run in stocks is doubly risky.  First there is uncertainty about whether you will actually earn a positive risk premium, and second, we don't know what that premium should actually be.

Zvi Bodie (Finance Prof at Boston U) makes this point.  He argues that what investors should do is buy TIPs and treat saving for retirement as just that - saving, and not investing.  I think Prof Bodie is perhaps taking an extreme view, because the return on TIPs is likely to be pretty low in real terms for most investors, meaning that they will have to save a lot more to reach their goals.

The other extreme is the case of the investor who assumes a 12% return on stocks and invests the minimum amount, hoping that massive gains in the market will build most of his wealth.  Even worse is the investor who keeps rearranging his allocation in his 401K plan because he thinks he can time the market.  And don't get me started on the person who borrows against their 401K to buy a new car...

My strategy is to take a middle of the road approach.  We should invest in a diversified portfolio of index funds and work under the assumption that the risk premium is very low - say 2%.  This premium would translate into, maybe a 5% portfolio return.  Then based on this low performance, we should invest more today to meet our goals.   If the market does well, you'll be able to sail the world in your retirement.  If it doesn't, you should at least be able to avoid living with your kids.

What to do if you have a bad 401k

InvestorCookbooks talks about how to tell if your 401k isn't good.

Wall Street doesn't want financially literate investors

An interesting article that argues that the last thing Wall Street wants is investors that know what they are doing.  

High fees aren't just a problem for small investors

There are two things individual investors can control: how much money they put in their retirement portfolio and the fees that they pay.  They should maximize the first and minimize the second.

High fees will destroy your wealth.  But individual investors aren't the only ones who can end up paying too much for investment services.  Consider the case of the Libyan Investment Authority.   You'd think that these guys would be able to get a pretty good beak on the fees paid.   Not so as the FT reports. In some cases the fees paid were approaching 10% of the fund's asset value.

So remember, it doesn't matter whether you are just an ordinary investor or a crazy dictator of an oil rich nation, you need to watch out how much you are paying in fees.

Guest post on the current market volatility.

In a first for my blog, here is a guest post by Ron Elmer.  Ron talks about the current market volatility.

Over the past few weeks I’ve had numerous friends express concern about the economy and financial markets and have asked for my thoughts.  My thoughts follow…

The way I look at it, everyone has to make a choice between two possibilities and plan accordingly:

(1) Anarchy will reign - stockpile guns, ammo, barbwire around your farm and bomb shelter etc.

(2) We'll get through this like we have for 200 years - rebalance your portfolio and buy stocks when they are down.

I can respect folks who choose either of these options, but anything in between is pointless.

Being 100% cash won't work in either scenario. If the financial system collapses, they won't be able to get their cash out of whatever bank it is in.  Even if they could get it, cash will be worthless during true anarchy. Not many folks would sell their last loaf of bread for any amount of gold either.  

In 2008 we truly were standing at the edge of anarchy - that was scary.  That was the scariest time in our economic history... Oh wait, maybe World War I was scarier, and WWII. Oh yeah, 9/11 when stock market was closed for a week - now that was scary!  Don’t forget the turmoil caused by the Korean and Vietnam wars.  Then there were the race riots in the 60-70s. Can you imagine riots? I can't but it was going on when we were kids. Assassination of JFK, Reagan shot, Nixon's Watergate, Clinton's Lewinskigate. How about nuclear missiles a couple hundred miles off the shores of Florida? Now that must have been really scary.

I'm forgetting a dozen catastrophes I'm sure. Yet, the stock market averaged about +10% annualized return throughout all this. To be sure, the stock market is never up in a straight line.  What is beautiful is the crookedness of the returns. Each and every instance I listed above was a BUYING opportunity.  

Folks that are 100% liquid now may well look like geniuses.  Greece could default and implode the entire European Union. Moody's could agree with S&P and downgrade the US credit rating a meaningless notch. Politicians might shut down the federal government, again (yeah, that's right, it's happened before and in our lifetime too).

But, even if those "liquid" folks are right and the market dives another -20%, they'll never have the foresight or fortitude to buy back in at the bottom when everything looks it's worst. Thus, they can be right ONCE and cost themselves a ton of money when the market snaps back. The folks that are liquid now, are likely liquid because they sold out before the bottom in the market in March 2009.  They likely watched the Dow fall from 14,000 to 8,000 and finally decided to sell all their stock funds. They realized they were geniuses as the Dow continued it's descent to 6,500. But, in the end they would have been better off doing nothing as the Dow is now back up to 11,000 (even after the recent decline) and MUCH higher than where they likely sold. Better yet, instead if selling at 8,000 they would have done well to BUY at 8,000 even while that was not the bottom and the market fell further.

That is another great point; one does not have to pick the exact bottom in the stock market to make a lot of money. The folks that bought stocks at Dow 8000 surely felt more pain as they watched it continue to fall to 6500. But, with the Dow currently at 11,000 they certainly are happier now than the folks that sold at 8000.

We should almost be grateful for each of these "opportunities" that the "sky is falling" alarmists provide us.

Embrace the volatility. The easiest way to do that? Own a mixture of stock and bond index funds and....

Buy monthly with your paycheck and rebalance annually on your birthday.

Buy and rebalance, buy and rebalance - year after year after year.  Over the course of a lifetime, you will have bought low and sold high over and over and over again.  Rebalancing is easy to do in “normal” years. In fact, it’s almost unnecessary most of the time.  When rebalancing is crucial is in times like these – when you have to buy when everyone else is selling.  But, history has shown time and time again, the time to buy is when everyone else is selling.

Rebalance annually and mechanically, don't "think" about it.  Turn off CNBC. Be oblivious. Be happy. Be wealthy.

Ron  

P.S. You can find more information in one of my 4 books on Amazon at the link below.

www.InvestorCookbooks.com

The best and worst trades of all time

Via Newmark's door.  The best and the worst.

Personal Finance on a Napkin (or three)

NY Times presents some personal finance tips written on napkins.  Brilliant.

HT: FinanceProfessor

Scott Adams on investing.

Scott Adams (of Dilbert fame) offers some timeless advice on investing. All of it is highly humorous, and most is pretty true.