The Lazy Way to Investment Success

OK, so I just spent an hour on the Fidelity site, and moved over all my funds, as well as re-directing all new elections.

My target:

55% Fidelity Spartan Total Market Index
25% Fidelity Spartan International Index
10% Fidelity Emerging Markets
10% Fidelity Inflation Protected Bonds

My former elections were mainly target funds, with some emerging markets and bonds added in. I like the new portfolio – much easier to see the asset allocation with just four funds.

J.D., thanks for the book recommendation. I’ll check it out.

I honestly don’t see how you, in your position as a responsible blogger, suggest that people invest in funds and then forget about it.

That didn’t work so well last year, and there are more bear markets in everyone’s future.

Investors should want to reduce risk – at least that seems natural to me. The simplest way to do that is to own collars (an option strategy). But there are alternatives. Learning how options work so you can decide if path towards financial security.

Not for the very lazy investor. But for the intelligent investor who wants less risk.

The Rookie’s Guide to Options

Agree. I would NEVER try to time the markets. Nor is there any reason to be an active trader. But I believe in being protected at all times.

You can buy a simple investment (or a few of them) such as the S&P 500 index, the Russell 2,000, etc. The buy puts for proection and sell calls – limiting profits, but paying for the puts.

Result – protection against a significant loss – and limited profits. That’s a great combination for me. You can trade these collars once per year, so it’s not active investing.

Of course, one can indeed be lazy and hope the next 50 years is a repeat of the last 50. I prefer insurance.

Good luck.

@Mark Wolfinger,

No one has ever claimed that buy and hold indexing protects value all of the time and in every market environment. Saying that it didn’t work last year is just a silly argument. There is only harm in a market decline if you need to sell and raise cash; otherwise, you can forget about it, ride it out.

Insuring with options has costs, so if you don’t need the money in a market decline, why pay for insurance you don’t actually need? You’re essentially talking about wearing your rain coat when you’re not even planning to leave the house. It may make you feel good, but you’re not getting wet anyway.

@ Matthew

Matthew, I admire the fact that you follow your ideals when investing. Just realize that not all of us feel the way you do.

I, for one, am thankful that Exxon exists so I can drive my car to work everyday. And I enjoy my cup of coffee in the morning. I don’t see the great evil in these companies providing services that people want at a price people are willing to pay.

Are they perfect? Definitely not. But I vastly prefer the construct of capitalistic competition to that of monopolistic socialism. At least you have the option of investing your money in more socially responsible companies. If the natural environment were “shared equally by everybody” you would most assuredly not have alternatives if it was not being treated how you desire.

“How can you have a bear market without people pulling money out?”

Every trade has two parties, doesn’t it? So there is always someone buying when people are selling, even when a person is naked shorting a stock.

The point is that this strategy only works as long as people are able both functionally and emotionally able to stay long [invested]. The vast majority of mutual fund investors aren’t able to do this when stocks start going down. Of course the inverse is also true, people tend to buy stock mutual funds when the market goes up exhibiting what has been called irrational exuberance. Hence people who purchase mutual funds tend to buy high and sell low so they underperform the market by a significant amount. As to whether it happens to any individual, it’s a guess at best. So when people talk about risk, they rarely discuss the real risks involved in investing in the market!

Just my opinion!

I’m so lazy that I am going to rush out right now and start researching Lazy Portfolios.

Hahahaha

@dave shafer

“The point is that this strategy only works as long as people are able both functionally and emotionally able to stay long [invested].”

Sure, not selling at the bottom is crucial. But why suffer through that bottom? Why not avoid all debacles in exchange for limited profits? The profits are not trivial, just less than they would be during surging years. The collared investor actually earns more money most of the time.

“Every trade has two parties, doesn’t it? So there is always someone buying when people are selling, even when a person is naked shorting a stock.”

As more people want to sell, prices go down to match limited buyers to many sellers. So as more people wish to sell, prices drop and we have a bear. And the data shows people sell during a bear. That’s just not that interesting I think. Of course that buyer may turn out to be seller if the market doesn’t recover as soon as he hoped so he may or may not do well “buying low”.

But yes, if you have a strategy you must stick to it.

But how do you know that the people selling into the bear were the lazy investors? They could be active investors getting out when the getting is good according to whatever system they have.

Maybe Harry Browne’s permanent portfolio can also be considered a lazy portfolio, albeit a rather special one.

I put everything I can into VTTHX, Vanguard’s 2035 target retirement fund. It’s not my intended retirement date, but its allocation curve is a little closer to my preferences. I have smaller amounts in other accounts that don’t offer Vanguard funds. That includes FCNTX, Fidelity’s popular actively managed Contrafund. Not my style, but I don’t mind letting them play with a small part of my portfolio.

@ Jason (#37)
Why don’t folks just go with Vanguard target retirement funds? My retirement money is stashed there. Appropriate domestic/international/bond mix that rebalances for you over time. People make things way too complicated. Since I’ve switched, I haven’t thought about my investments since.

I don’t know about Vanguard’s target funds, but the one I have available in my 401k was not be allocated the way I think it should be for my target date. Two years ago when I first invested in it, it was drastically underperforming the funds that were focused on small cap, emerging markets, and international, so since I have 30 years plus to go I started my own lazy portfolio (before I knew it was called that ). It’s allocated like the No-Brainer above – only in the equivalent funds available to my account.

“A fool and his money are soon parted.” – Thomas Tusser

Anyone who doesn’t have a large, and I mean LARGE, sum of money to invest and the time to research the stock market would be best served by a lazy approach. There are many former “day traders” out there who lost everything thinking they could beat the market. Many of them from before the current market slump.

I am a severe critic of the Lazy Investing approach, at least in its conventional form.

I see the appeal. There is indeed a huge amount of unnecessary complexity in much of what we hear about investing. Avoiding needless complexity is a perfectly sensible goal.

And there is no need to pick individual stocks. Index funds provide huge diversification at low cost. They are a great option for those of us who have other things we want to do with our free time than research stocks.

There’s even a sense in which I advocate a Lazy Investing approach myself. I advocate Valuation-Informed Indexing, which is an indexing strategy in which you lower your stock allocation at times of insanely high prices and increase it at times of insanely low prices.

The problem with the other Lazy Investing approaches is that they do not call for changing one’s stock allocation in response to big price swings. When you fail to adjust your stock allocation, you permit your risk level to go wildly off the mark from what you had intended it to be and from what is right for you. That means that you end up suffering huge losses and eventually feel pressed to abandon stocks altogether.

The particular form of laziness that causes people not to want to consider stock prices when setting their allocations is a form of laziness that generates huge amounts of stress in the long run. Valuation-Informed Indexing is a low-stress “lazy” approach. There’s nothing appealing in my eyes to being worried that my retirement plan is not going to work out because I was too “lazy” to make the adjustments in my allocation needed to keep my risk profile roughly stable.

How often do you need to change your allocation to achieve a low-stress approach to laziness? About once every 10 years on average. But the one change in 10 years means the difference between an approach that works in the real world and one that does not. I don’t believe in being so lazy that I am not willing to take that one critical step toward achieving my goal of long-term investing success.

Rob

Rob, I’m not sure why you make this claim. These lazy portfolios do call for re-balancing

Thanks for your response. J.D.

You are of course correct that the Lazy Investing approaches all call for rebalancing.

I make the claim because the aim of rebalancing is to stay at the same stock allocation. That doesn’t do the trick. To remain at the same risk level, (this is what I say you must do in order to “Stay the Course” in a meaningful way), you must change your allocation in response to big price swings.

Say that you are an investor seeking a risk level of about “6″ and you determine that a 60 percent stock allocations yields that risk level at a time of moderate prices. So you go with a 60 percent stock allocation. Then valuations increase enough so that a 60 percent allocation is now a risk level of “9.” With Valuation-informed Indexing, you would then lower your stock allocation to perhaps 30 percent, the stock allocation that provides a “6″ risk level at the new valuation level.

Investors have a choice. They can stick with the same risk level at all valuation levels or they can stick with the same stock allocation at all valuation levels. They cannot do both. The other lazy approaches argue for sticking with the same stock allocation and permitting the risk level to go wildly wrong. The idea with Valuation-Informed Indexing is to make the occasional allocation changes needed to keep one’s risk level roughly constant.

Rob

@Dylan: LOL! I was thinking the exact same thing.

“Valuation-informed Indexing” sounds like another way to say “market timing.”

That’s fair, Dylan.

There are two kinds of market timing, short-term market timing (changing your stock allocation with the expectation that you will see good results within a year or so) and long-term market timing (changing your stock allocation with the understanding that it often takes five years or even longer to begin seeing produce good results). The academic studies show us two things: (1) short-term timing never works; and (2) long-term timing always works. So the claim that “timing always works” is every bit as accurate as the marketing slogan saying that “timing never works.” The reason why The Stock-Selling Industry put all its money into promotion of the “timing never works” claim is that that’s what sells at times of insanely high stock prices (when the Get Rich Quick impulse within all of us is desperate for some rationalization not to act on the common-sense understanding that one must keep one’s risk level roughly constant to have a realistic hope of long-term success).

Since the huge price crash we have seen a lot more articles questioning the merits of Passive Investing, which is the model responsible for most of the Lazy Investing approaches. My hope is that some responsible people will step forward and that we will be able to get the word out to millions of middle-class investors in coming days as to what really works for investors seeking a realistic chance at long-term success. I think it would be fair to say that the fate of the U.S. economy hangs in the balance.

Rob

I also note that he has never provided a side-by-side comparison of returns for his strategy versus any of the Lazy Portfolio alternatives.

I provide a calculator at my site (“The Investor’s Scenario Surfer”) that permits anyone who is interested in doing so to run as many comparisons of a Passive indexing strategy with a Valuation-Informed Indexing strategy as he cares to look at. The bottom line is that valuation-informed strategies beat passive strategies in nine of out ten of the 30-year returns sequences that are consistent with those we have seen in the historical record. It is not too uncommon to see a portfolio balance for the valuation-informed strategy that is double the size of the passive portfolio.

The reason is the magic of compounding returns. A Passive strategy can do as well as a Valuation-Informed strategy for a good number of years. But sooner or later the Valuation-Informed strategy always goes ahead. Once that happens, compounding takes over and the differential grows larger and larger and larger over the years. Many people have a hard time accepting how powerful a force the compounding returns phenomenon is. But it is a real thing. The long-term investor should want to have the compounding returns phenomenon working for him, in my view.

Rob

@Rob Bennett,

“The academic studies show us two things: (1) short-term timing never works; and (2) long-term timing always works.”

If you understood how markets work, you should understand the flaw in your statement.

I do get what you are trying to advocate. It’s nothing novel. People have been trying to mine historical data for clues about how to beat the markets since existence of historical data. The bottom line is that we all can’t be above average, and any market timing strategy that can persist relies on the faulty premise that it is truly superior but will never become mainstream.

I saw your Web site, and can quickly see how invested you are in this Valuation-Informed Indexing strategy, so I don’t expect anything I could say to change your mind. So, I’ll just agree to disagree on which strategy is better.

The bottom line is that we all can’t be above average, and any market timing strategy that can persist relies on the faulty premise that it is truly superior but will never become mainstream.

Valuation-Informed Indexing certainly does not rest on that premise. It’s precisely the opposite. Valuation-Informed Indexing works best when everyone understands the need to change stock allocations in response to big price changes. A key premise is that investing is primarily an emotional endeavor and we all are inclined to do what we see everyone else doing. The only way we can be sure to invest rationally (that is, in a valuation-informed way) is to see lots of others people doing the same. I view the stock market as a common resource, like the environment. My belief is that we all should be trying to protect it from the destruction that comes in times of insane overvaluation so that it will be around to help us achieve our retirement goals.

The mistake you are making (in my view!) is in thinking that it takes some special skill to beat the market. It does not. All it takes is a little bit of common sense. It is not at all hard to understand why valuations would affect long-term returns. The price we pay for everything else we buy affects the value proposition that we obtain from those things. The odd thing would be if price did not affect the long-term value proposition of stocks.

What trips people up is that people see how intellectually smart the “experts” are and figure that they must be on top of things. No! Intellectual smarts is often a negative when it comes to stock investing. The most important thing is getting your emotions under control. The “experts” are at a huge disadvantage here because their intellectual skills give them super powers when it comes to rationalizing away evidence that high valuations mean danger for the stock investor. It is the investor who is able to hold onto his common sense when 90 percent of the “experts” are promoting Passive Investing who has the edge.

Markets are not rational. The key error made by the Passives is thinking that they are. If markets were rational, the valuation levels we saw from 1995 through 2008 would be a physical impossibility. If markets were rational, stock prices could never go to three times fair value, as they did at the top of the bubble.

Passives often say “oh, if there were some advantage to engaging in long-term timing, we would all be doing it.” IF we were rational, that would indeed be so. But we’re not! That’s the entire point! If we were rational, overvaluation would not even exist. If we were rational, there would be no such thing as drunk driving. Does it make sense to let your friend drive drunk because you like to think that he is rational and therefore you see no need to protect him from the consequences of irrational behavior? Not in my eyes. I don’t let my friends drive drunk and I try to talk my friends out of investing passively too.

I’ll just agree to disagree on which strategy is better.

That’s of course fine, Dylan. Thanks for the helpful back-and-forth.

Rob

The bottom line is that we all can’t be above average,

We can’t all be above average. But if we become educated about how stock investing works, we can move the average up far higher than what it has been in a time-period when we were not making informed choices.

There have been four times in U.S. history (from 1900 forward) when stock prices have gone to insanely high price levels. The average price drop in the years following is 68 percent. There has been been a major economic crisis on each of those four occasions. There has never in that time-period been a major economic crisis that did not follow a time of insanely high stock prices.

Persuading millions of middle-class investors that it was not necessary for them to adjust their stock allocations in response to huge price changes was an act of national economic suicide. The Passive Investing Mistake was the greatest mistake ever made in the history of personal finance. We are in the early days of learning the consequences of that mistake today.

There is no law of the universe that says we need to do this to ourselves over and over again. If we taught people the realities of stock investing, market prices would be self-correcting. If we let people know that they MUST lower their stock allocations when prices get to insanely dangerous price levels, there would never again be a huge bull and there would never again be a huge bear and there might never again be a huge economic crisis.

When we invest rationally, we all enjoy the fruits of that decision because we all have a more rational market in which to invest our retirement money and a richer economy to work in and buy things in. When we collectively go nuts (as we did when we told millions of people that there was no need to lower their stock allocations when prices went to three times fair value), we ALL pay the price, Rationals and Passives, New Schoolers and Old Schoolers.

Irrational exuberance comes at a big price. We all should have an interest in trying to get the U.S. economy back on track. This is not a game. This is the real thing.

Rob

Mr. Bennett, Vanguard’s Wellington Fund was established on 7/1/1929. Is that sufficient time to be considered long-term in your estimation? Annualized returns are presented for the fund and its unmanaged comparison index at Vanguard.com dating back through 1999. Earlier annualized performance figures for the fund and its unmanaged comparison index can be found at SEC Info for earlier annualized periods. Rather than referring readers to your calculator (which appears at first glance to utilize hypothetical returns and return sequences), it would be much more helpful if you could post a simple table of returns for your valuation-based model versus the Wellington Fund and/or its unmanaged comparison idex. That’s considered standard form in backtesting proposed investment strategies.

but I’ve seen several attempts to put your many vague paragraphs into testable formulas and portfolios and each has been somewhat different and they generally underperformed the market when tested.

Gibberish.

The historical stock-return data is public information.

Rob

If one could accurately, every decade or so, sell at the high point or even somewhat close to it, and then buy back in at the low point, the returns would be astonishing.

I am not aware of any means of identifying either the high point or the low point. So I find this idea preposterous.

But you knew that, didn’t you, snowballer?

Rob