"The Smartest Portfolio You'll Ever Own" -- A Gem

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"The Smartest Portfolio You'll Ever Own" -- A Gem

Postby Taylor Larimore » Sun Aug 14, 2011 10:30 pm

Hi Bogleheads:

This is Daniel Solin's fourth "Smartest" investment book written to help individuals become better investors. Dan's website is www.smartestinvestmentbook.com.

Below are excerpts from The Smartest Portfolio You'll Ever Own which I call: Investment Gems.

Here’s the real skinny on investing: It’s not complicated.

Smart investing is actually quite simple and straightforward, once you understand the fundamentals.

No one has a clue where the markets are headed.

There is always the possibility of a ‘black swan’ event, which would make all predictions meaningless.

Holding any actively managed mutual fund increases your costs and reduces our expected return.

Before you can invest the right way, you need to understand what you are doing wrong.

Studies show that emotions drive investment decisions as much (or more) than objective data.

Understand that your brain may be pushing you toward the thrill of short-term decisions, when your real focus should be on long term ones.

In April 2003, ten of the largest brokerage firms agreed to pay $1.4 billion to settle charges their research had mislead investors.

This is an industry infected by systemic greed and the absence of an ethical or moral code of conduct.

The judgment of all investors worldwide is wise. You should heed it.

Buying and selling is the lifeblood of the securities industry. In the first nine months of 2010, trading fees accounted for 36% of Morgan Stanley’s revenues and a much higher proportion of its profits.

From January 2000 through December 2010, the Barclays Aggregate Bond Index was up 96.84%, which validates the importance of holding bonds in your portfolio.

You should be investing in a globally diversified portfolio of stock and bond index funds, with low management fees, dividing your investments among stocks, bonds, and cash, in an asset allocation suitable for you.

Knowledge of risk, rebalancing, and the effect of taxes are critical to investing successfully.

Just say no to market timing, buying individual stocks or bonds, actively managed mutual funds, alternative investments, variable annuities, equity indexed annuities, private equity deals, principal-protected notes, currency trading and commodities trading.

Jason Zweig, a highly respected financial journalist and author, put it this way: “Thou shalt take no risk that thou needest not take.”

Your tolerance for risk is driven by your time horizon and your tolerance for short-term volatility.

Doing research to uncover the next hot stock or mutual fund to include in your portfolio is a terrible, counterproductive idea.

All information about publicly traded securities is already in the public domain and factored into the price of those securities.

You can achieve the same expected return, with significantly less risk, by holding index funds instead of individual stocks.

According to Larry Swedroe, author of The Only Guide to a Winning Bond Strategy You’ll Ever Need, broker dealers can add spreads of 2% to 6% on purchases and sales of bonds.

With rare exceptions you would be better off holding a bond index fund than individual bonds.

Wall Street is not completely lacking in skill. It takes considerable skill to convince you it has an expertise that doesn’t exist and that you should pay for this nonexistent skill.

From 1802 to 2001, $1 invested in gold would have been worth $0.98. If you invested the same dollar in stocks, you would have ended up with $599,605.00.

There’s big money to be made in hedge funds…running them, not investing in them.

In the last 10 recessions in the United States, stocks increased in value by an average of 32% one year after the market low.

John Bogle studied the tax effects on returns of actively managed versus index funds from 1980 through 2005. $10,000 invested in the average actively managed stock fund was worth $108,000 before taxes and $71,000 after taxes. The same investment in an S&P 500 index fund returned $181,000 before taxes and $158,000 after taxes.

The news about ETFs isn’t all rosy. You will need to open a brokerage account, which will expose you to all the sales pitches and gimmicks employed by those firms.

I recommend only large, liquid ETFs, which tend to have the smallest bid-ask spreads.

Rebalancing once or twice a year when your allocations alter your risk level by more than 5% makes sense.

An allocation range of 20% to 40% to foreign stocks is likely to capture most of the benefits of diversification.

Just because a portfolio delivers a higher return than another portfolio, doesn’t mean it is a better portfolio. The higher return may be the result of taking more risk which means a greater possibility of loss.

The Sharpe ratio should be used with some caution because it is calculated based on historical returns, which are not necessarily predictive of future results.

A wise man finds a smart man and learns from him.

The amount of your portfolio allocated to stocks and bonds is a critical decision that will have the most significant impact on your expected returns.

Currently, Vanguard is the only option if you want a target date retirement fund that meets all of my requirements.

A globally diversified portfolio of three low management fee index funds has stood the test of time and market turbulence.

One of the Smartest Portfolios is Vanguard Total Stock Market Index (VTSMX), Vanguard Total International Stock Market Index (VGTSX), and Vanguard Total Bond Market Index (VBMFX).

Higher returns, at a lower risk, are the holy grail of investing.

If your broker engages in active management and attempts to beat the markets by investing in actively managed mutual funds, picking stocks, or timing the market, you are likely to be harmed by this advice.

For many investors, the Internet has either augmented the services received from brokers and advisers, or replaced them altogether.

There are 36 million households who rely on advisors for investing guidance. Unfortunately, most of them have chosen the wrong adviser and have paid the price.

Personal discipline and tax loss harvesting are two issues to consider when deciding whether to use an adviser.

If you are using a broker or adviser who claims to be able to beat the market - withdraw your money and close your account.

In October 2009, net inflows to bond funds and out of equities peaked at $231 billion. These investors missed out on the huge run-up of stocks, which continued through 2010.

There is a heated debate among financial experts about whether DFA’s passively managed funds, Vanguard’s index funds, or a portfolio of ETFs , is the best choice for investors.

If you don’t know the risk of your investments, you have no business investing.

Focus on the after-tax return of your investments. Pre-tax returns can be very misleading.

The single most important decision you can make is to renounce active management.

Research demonstrates that increases in risk to a portfolio are most efficiently implemented by varying the exposure to stocks and not by varying the term or the credit risk of the bonds in a portfolio.

I highly recommend the following books: The Intelligent Asset Allocator; The Little Book of Common Sense Investing; A Random Walk Down Wall Street; Index Funds-The 12-Step Program for Active Investors; The Bogleheads’ Guide to Investing.


Thank you Dan Solin

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Postby RadAudit » Mon Aug 15, 2011 7:08 am

Thanks for the post and link.
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Postby Michael Baker » Mon Aug 15, 2011 8:46 am

From 1802 to 2001, $1 invested in gold would have been worth $0.98. If you invested the same dollar in stocks, you would have ended up with $599,605.00.


I have been looking for the actual data! I have said for years that gold is a horrible investment and to run for the hills but now I have some hard data to back it up. :).
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Postby Rick Ferri » Mon Aug 15, 2011 9:19 am

There is a heated debate among financial experts about whether DFA’s passively managed funds, Vanguard’s index funds, or a portfolio of ETFs , is the best choice for investors.


Given that Solin works for IFA, which is a paid middleman and gatekeeper to DFA funds, I bet I can guess his answer! :wink:

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Postby Beagler » Mon Aug 15, 2011 9:24 am

Like a jazz musician who knows only a few riffs, this guy puts out essentially the same book with different titles.
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Postby pkcrafter » Mon Aug 15, 2011 11:09 am

Thanks for the gems from Solin's book.

One of the Smartest Portfolios is Vanguard Total Stock Market Index (VTSMX), Vanguard Total International Stock Market Index (VGTSX), and Vanguard Total Bond Market Index (VBMFX).

Also known for many years as Taylor's thrifty three!


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Postby BigD53 » Mon Aug 15, 2011 2:10 pm

"This is an industry infected by systemic greed and the absence of an ethical or moral code of conduct."

I couldn't have said it better!!

See the award-winning documentary: "Inside Job."
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DFA vs Vanguard

Postby dansolin » Mon Aug 15, 2011 3:10 pm

I very much appreciate Taylor's kind posting. As far as I can tell, this is the first book to show do-it-yourself investors how to purchase a portfolio consistent with the Fama-French three-factor model.

As for the DFA/Vanguard issue, I think Rick Ferri and others will be very surprised at how I come out.
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Re: DFA vs Vanguard

Postby Michael Baker » Mon Aug 15, 2011 3:57 pm

dansolin wrote:As for the DFA/Vanguard issue, I think Rick Ferri and others will be very surprised at how I come out.

What is your stance?
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DFA/Vanguard

Postby dansolin » Mon Aug 15, 2011 4:04 pm

The studies are inconclusive and depend on the period examined. I rely on the research of Professor Ed Tower at Duke. I conclude investors should focus on the active/passive debate which is a far more important factor than whether DFA or Vanguard portfolios will outperform over the long term. I cite to data showing the difference in returns earned by index investors with and without advisers, relying on independent sources, including studies by Bogle.
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Re: DFA vs Vanguard

Postby ddb » Mon Aug 15, 2011 4:04 pm

dansolin wrote:I very much appreciate Taylor's kind posting. As far as I can tell, this is the first book to show do-it-yourself investors how to purchase a portfolio consistent with the Fama-French three-factor model.


What exactly is 'a portfolio consistent with the Fama-French three-factor model'? To my knowledge, FF3F doesn't lead towards a recommendation of whather to tilt to certain risk factors, and if so, how much to tilt. Rather FF3F explains the reasons for expected returns.

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Postby dansolin » Mon Aug 15, 2011 4:07 pm

The Fama-French three-factor model posits that exposure to small cap stocks and value companies (in addition to the percent your portfolio is invested in stocks) explains 90% of the variability of returns in diversified portfolios. I show you how to put together a portfolio with a small and value tilt, for various risk levels.
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Postby ddb » Mon Aug 15, 2011 4:10 pm

dansolin wrote:The Fama-French three-factor model posits that exposure to small cap stocks and value companies (in addition to the percent your portfolio is invested in stocks) explains 90% of the variability of returns in diversified portfolios. I show you how to put together a portfolio with a small and value tilt, for various risk levels.


Oh, okay.

I wouldn't call a small/value tilted portfolio something which is "consistent with the Fama-French three-factor model". The FF3F literature that I've seen don't point investors towards a model. In other words, a person who believes in FF3F could just as easily wind up with a large-cap growth tilted portfolio.

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Fama-French 2 Factor Model

Postby dansolin » Mon Aug 15, 2011 4:24 pm

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Re: DFA vs Vanguard

Postby Rick Ferri » Mon Aug 15, 2011 5:15 pm

dansolin wrote:As for the DFA/Vanguard issue, I think Rick Ferri and others will be very surprised at how I come out.


There are far too many "DFA-funds-are-the-universe...hire-me-to-get-DFA" books on market. I am looking forward to reading your objective book on how low-cost indexing can help ALL investors.

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Smartest Portfolio

Postby dansolin » Mon Aug 15, 2011 5:21 pm

Thank you, Rick. All of my books -- and especially this one -- are intended to empower investors who want to invest without a broker or adviser, to obtain the best portfolios which will give them maximum returns for the amount of risk taken.

I welcome all feedback.
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Re: Fama-French 2 Factor Model

Postby ddb » Mon Aug 15, 2011 5:24 pm

dansolin wrote:Please see this explanation:

http://www.ifa.com/12steps/step8/step8page4.asp


From the linked page:

These findings suggest that an investor’s investment performance in comparison to the stock market or other investors depends almost entirely on the percentage of stocks (market factor) held in a portfolio, and more specifically, the amount of small stocks (size factor) and high book-to-market ratio stocks (value factor) held.


Agree with the above. The findings (or model) do not indicate whether one should tilt towards certain types of stocks.

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Weighting the size factor and the value factor

Postby dansolin » Mon Aug 15, 2011 5:34 pm

Please see this excellent article and let me know if it changes your view:

http://bickfordinvest.com/fctr0401.pdf
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Smartest Portfolio book trailer

Postby dansolin » Mon Aug 15, 2011 5:45 pm

This book trailer explains the "SuperSmart Portfolio":

www.youtube.com/watch?v=tHqs6GrhaNk

Let me know how you like it.
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Postby Rick Ferri » Mon Aug 15, 2011 6:08 pm

There is a big difference between Vanguard value funds and DFA value funds.

Vanguard tracks MSCI value and growth indices which are all-inclusive. This means you can add MSCI value and growth inducies together and essentially get the MSCI broad market. Nothing is left on the cutting room floor. That's the way style 'indexes' are created.

Compared to Vanguard methodology, DFA funds are extreme active management. They don't track any index, nor do they track the FF data that Dan highlighted. DFA is not interested in tracking an index or being an index fund. They want to be a quant fund. They use quantitative screening methodology along with momentum screens to capture only deep value stocks that they believe have turned the corner.

I am not saying that Vanguard is better than DFA or vice versa. I am saying that it is rather ridicules to compare DFA's deep value heavy quantitative methodology to the simple all-inclusive MSCI value strategy that Vanguard follows.

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The Smartest Portfolio

Postby dansolin » Mon Aug 15, 2011 6:50 pm

The funds I recommend for use in the SuperSmart Portfolio are Vanguard index funds, Vanguard ETFs, iShares, and SPDR ETFs.
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Postby Beagler » Tue Aug 16, 2011 7:32 am

The quote above vales gold only through 2001. Why not through 2010? Or the present (publication lead-time acknowledged)?
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Smartest Portfolio

Postby dansolin » Tue Aug 16, 2011 7:38 am

Taylor quote is an extract from my book. In the book, I make the point that there are periods of time when gold was a terrific investment. The contrary is also true.
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Postby DriftingDudeSC » Tue Aug 16, 2011 7:53 am

Great quotes Taylor. Thanks for the post.
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Postby Beagler » Tue Aug 16, 2011 9:31 am

I just thought it was odd to compare the price of gold from the year Napoleon was elected president of the Cisalpine Republic but end 10 years ago. Seems like cherry-picking to not include gold pricing up until the time the book galleys went to press.
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Postby Rick Ferri » Tue Aug 16, 2011 10:12 am

Beagler wrote:I just thought it was odd to compare the price of gold from the year Napoleon was elected president of the Cisalpine Republic but end 10 years ago. Seems like cherry-picking to not include gold pricing up until the time the book galleys went to press.


The price of gold has basicly tracked the inflation rate for the past 3000 years with many spikes inbetween. This suggests that something will eventully give. Either the price of gold will come down to its long-term inflation adjusted price of about $500 per ounce or global inflation will zoom by at least 200%.

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Postby staythecourse » Tue Aug 16, 2011 10:46 am

Michael Baker wrote:
From 1802 to 2001, $1 invested in gold would have been worth $0.98. If you invested the same dollar in stocks, you would have ended up with $599,605.00.


I have been looking for the actual data! I have said for years that gold is a horrible investment and to run for the hills but now I have some hard data to back it up. :).


You do realize gold was on the gold standard until 1970 or so?

Good luck.
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Postby Rick Ferri » Tue Aug 16, 2011 12:41 pm

staythecourse wrote:You do realize gold was on the gold standard until 1970 or so?

Good luck.


This doesn't change the fact that gold is trading between 3x and 4x its long-term inflation adjusted value. Consequently, eventually either global inflation will skyrocket or gold will fall back in line.

I believe one of the *new* things about gold is that it can now be bought in paper form via an ETF. The ETF market has taken a rather illiquid asset and made it as liquid as a blue-chip stock. This created a huge demand from people who would not ordinarily be in the gold market. A large shift in demand without a corresponding large shift in supply will always push a commodity's price higher than it's true economic value.

All supply and demand shocks eventually work themselves out as more of the commodity comes to the market as a result of higher prices and fewer people take an interest in the product. No one knows when or at what price gold will peak, but when it does, don't be near the door.

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DFA vs Vanguard

Postby dansolin » Tue Aug 16, 2011 1:26 pm

This chart compares the annualized returns of DFA vs Vanguard, in each category, for the 10 year period from January 1, 2001-December 31, 2010:

http://www.ifa.com/12steps/step11/step11page3.asp#F11-7
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Postby Rick Ferri » Tue Aug 16, 2011 2:41 pm

I'll say it again that comparing Vanguard's market based index funds to DFA quant funds is like comparing apples to oranges. There is nothing about DFA funds that resembles a market tracking strategy. The managers are not following indexes, nor do they want to, and these funds are not passively managed. They are designed to capture deep value exposure. When value outperforms, as it did since 2001, it is expected that DFA value funds would outperform Vanguard value funds because of the concentrated risk they are taking.

DFA funds are also higher cost with higher expense ratios and an advisor has to be paid to gain access. That's going to be a drag on performance.

DFA is a fine company and they have some fine funds. There's nothing wrong with their strategy, but lets get ALL the facts on the table with all the costs included.

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Postby DiscoBunny1979 » Tue Aug 16, 2011 2:58 pm

Michael Baker wrote:
From 1802 to 2001, $1 invested in gold would have been worth $0.98. If you invested the same dollar in stocks, you would have ended up with $599,605.00.


I have been looking for the actual data! I have said for years that gold is a horrible investment and to run for the hills but now I have some hard data to back it up. :).


---------------------

If one believes in exponential growth and that some things have NO LIMIT, the above might be able to be used to postulate about future returns. But we humans, have to one day accept that everything has limits - we die for instance, that's a limit. The population of earth will eventually top at a certain number and go into a decline - that's a limit. The amount of oil of earth has a limit. If you can explain why there's no limit to exponential returns from the stock market, I'd like to hear about it. For instance, what's the catalyst for the DOW to exponentially grow every 10 years from 12,000 to 24,000 to 48,000 to 96,000 over the next 30 years to make long-term Indexed folks solace in knowing their money will grow at 7% as an annualized return over 30 years?
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Postby Rick Ferri » Tue Aug 16, 2011 3:00 pm

Michael Baker wrote:
From 1802 to 2001, $1 invested in gold would have been worth $0.98. If you invested the same dollar in stocks, you would have ended up with $599,605.00.


I have been looking for the actual data! I have said for years that gold is a horrible investment and to run for the hills but now I have some hard data to back it up. :).


This data set comes from Jeremy Siegel's book, Stocks for the Long Run. He had it in older editions. I don't know if it's still in the newer editions.

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Postby Deacon Mike » Tue Aug 16, 2011 3:19 pm

Beagler wrote:I just thought it was odd to compare the price of gold from the year Napoleon was elected president of the Cisalpine Republic but end 10 years ago. Seems like cherry-picking to not include gold pricing up until the time the book galleys went to press.


Just off the top of my head, gold was $200? per ounce in 2001 and it's now $1800/oz. So your 98 cents would grow to $8.82.

Using the "lost decade" as my guide, I'll assume the market is flat between now and then, so the $590+K is still $590+K. I don't think it changes the story too much

Feel free to double check my math and assumptions.
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Question for Rick re DFA

Postby Random Walker » Tue Aug 16, 2011 3:51 pm

Hi Rick,
I certainly understand that DFA funds are not based on popular indexes. But my understanding has been that they are very much passive asset class funds: no stock picking, no market timing. So what's not passive? I assume they have to do some work (more than a popular index) to maintain their targeted exposures, but isn't that still passive? Thanks

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Re: Question for Rick re DFA

Postby ddb » Tue Aug 16, 2011 3:53 pm

Random Walker wrote:Hi Rick,
I certainly understand that DFA funds are not based on popular indexes. But my understanding has been that they are very much passive asset class funds: no stock picking, no market timing. So what's not passive? I assume they have to do some work (more than a popular index) to maintain their targeted exposures, but isn't that still passive? Thanks


In my view, passive management means that no attempt is made to distinguish attractive securities from unattractive securities*. By this definition, DFA is not passive, because they specifically exclude securities which they believe are unattractive.

* If memory serves, I first saw this definition on Steve Evanson's website, and it stayed with me as the simplest way to explain passive management.

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Postby Beagler » Tue Aug 16, 2011 4:13 pm

Deacon Mike wrote:
Beagler wrote:I just thought it was odd to compare the price of gold from the year Napoleon was elected president of the Cisalpine Republic but end 10 years ago. Seems like cherry-picking to not include gold pricing up until the time the book galleys went to press.


Just off the top of my head, gold was $200? per ounce in 2001 and it's now $1800/oz. So your 98 cents would grow to $8.82.

Using the "lost decade" as my guide, I'll assume the market is flat between now and then, so the $590+K is still $590+K. I don't think it changes the story too much

Feel free to double check my math and assumptions.


Image
http://tinyurl.com/3dfcs6

Again, it seems exceedingly odd that someone would quote the historical price for gold back to the year that Washington, D.C. was incorporated as a city, Napoleon was elected president of his Republic, and the law establishing the US Military Academy (West Point, NY) was signed -- yet conveniently ends tracking gold's price in 2001 (10 years prior to the book's publication). Sorry, I'm calling data mining.
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Re: DFA vs Vanguard

Postby jimkinny » Tue Aug 16, 2011 4:31 pm

dansolin wrote:I very much appreciate Taylor's kind posting. As far as I can tell, this is the first book to show do-it-yourself investors how to purchase a portfolio consistent with the Fama-French three-factor model.

As for the DFA/Vanguard issue, I think Rick Ferri and others will be very surprised at how I come out.


Thanks Taylor for the post and thanks Dan for your link to IFA. That is a nice synopsis of value, market and size.

I will order your book today.

Jim
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Postby Deacon Mike » Tue Aug 16, 2011 4:41 pm

Beagler wrote:
Deacon Mike wrote:
Beagler wrote:I just thought it was odd to compare the price of gold from the year Napoleon was elected president of the Cisalpine Republic but end 10 years ago. Seems like cherry-picking to not include gold pricing up until the time the book galleys went to press.


Just off the top of my head, gold was $200? per ounce in 2001 and it's now $1800/oz. So your 98 cents would grow to $8.82.

Using the "lost decade" as my guide, I'll assume the market is flat between now and then, so the $590+K is still $590+K. I don't think it changes the story too much

Feel free to double check my math and assumptions.


Image
http://tinyurl.com/3dfcs6

Again, it seems exceedingly odd that someone would quote the historical price for gold back to the year that Washington, D.C. was incorporated as a city, Napoleon was elected president of his Republic, and the law establishing the US Military Academy (West Point, NY) was signed -- yet conveniently ends tracking gold's price in 2001 (10 years prior to the book's publication). Sorry, I'm calling data mining.


Data mining or laziness, I still don't think it changes the story in any way. The score is now 599,000 to 10 instead of 599,000 to 1. I think I'd pick the same side in either case.
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Postby baw703916 » Tue Aug 16, 2011 5:20 pm

So, the smartest portfolio you'll ever own is apparently tilted to SV.

For those who believe in total market, maybe it's the smartest portfolio you'll never own?

Discuss...
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Postby supertreat » Tue Aug 16, 2011 5:59 pm

baw703916 wrote:So, the smartest portfolio you'll ever own is apparently tilted to SV.

For those who believe in total market, maybe it's the smartest portfolio you'll never own?

Discuss...


The idea is that you concentrate equities in small-value and decrease overall percentage of them in your portfolio. This gives you similar upside potential with less downside risk of a traditional cap weighted portfolio (TBM-TSM approach): this idea is based on FF3 model.
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Postby Random Walker » Tue Aug 16, 2011 6:12 pm

I've come to see whole market index funds as essentially large cap growth funds, effectively tilted to LG. Likewise I have come to see portfolios comprised of total market indexes plus tilts towards size and value as diversified across risk factors. I think one can honestly say that tilters are more diversified across the factors that explain risk and returns.

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Postby Beagler » Tue Aug 16, 2011 6:23 pm

In reviewing the returns of TSM vs. the S&P 500, Mr. Bogle concluded that "it doesn't matter" which one an investor own, since the returns are so close. From a practical standpoint, owning TSM is like owning a large-cap fund.
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Postby baw703916 » Tue Aug 16, 2011 6:52 pm

supertreat wrote:
baw703916 wrote:So, the smartest portfolio you'll ever own is apparently tilted to SV.

For those who believe in total market, maybe it's the smartest portfolio you'll never own?

Discuss...


The idea is that you concentrate equities in small-value and decrease overall percentage of them in your portfolio. This gives you similar upside potential with less downside risk of a traditional cap weighted portfolio (TBM-TSM approach): this idea is based on FF3 model.


I agree with this approach, and proposed such a porfolio on a very long thread a while back. But, the tilt vs. total market debate seems likely to never end. ;)
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Postby Rick Ferri » Tue Aug 16, 2011 7:03 pm

baw703916 wrote:The tilt vs. total market debate seems likely to never end. ;)


I don't see it as a debate; I see it as a choice. A tilt to small-value is a riskier portfolio than total stock market, so you should expect to be paid for taking more risk. There is no such thing as a free lunch. That's the way Fama-French would explain it.

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Postby Random Walker » Tue Aug 16, 2011 7:23 pm

Yes I think a tilted portfolio is riskier, warranting a higher expected return. But isn't it fair to say that it is also more efficient since the risk factors it has more exposure to are weakly correlated? More return per unit risk, better sharpe ratio, brings annualized return closer to average annual return by smoothing the ride?

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The Efficient Portfolio

Postby Taylor Larimore » Tue Aug 16, 2011 7:41 pm

Random Walker wrote:Yes I think a tilted portfolio is riskier, warranting a higher expected return. But isn't it fair to say that it is also more efficient since the risk factors it has more exposure to are weakly correlated? More return per unit risk, better sharpe ratio, brings annualized return closer to average annual return by smoothing the ride?

Dave


Academics believe that Total Market Index Funds are the most "Efficient" portfolio (more return per unit of risk).

John Norstad explains:

Three Proofs That TSM is Efficient
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Postby Rick Ferri » Tue Aug 16, 2011 7:49 pm

Random Walker

At times that is true, but not all the time. Small value investors suffered terribly from 1998-1999 when large growth stocks were all the rage. This created a big sucking sound out of small value. Even DFA suffered.

My question is this, how long will the typical investor stick with a heavy small-value tilt when large growth dominates the markets again? Most "DFA advisors" have not been around long enough to know that answer. But I know. It isn't very long.

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Re: The Efficient Portfolio

Postby peter71 » Tue Aug 16, 2011 8:00 pm

Taylor Larimore wrote:
Random Walker wrote:Yes I think a tilted portfolio is riskier, warranting a higher expected return. But isn't it fair to say that it is also more efficient since the risk factors it has more exposure to are weakly correlated? More return per unit risk, better sharpe ratio, brings annualized return closer to average annual return by smoothing the ride?

Dave


Academics believe that Total Market Index Funds are the most "Efficient" portfolio (more return per unit of risk).

John Norstad explains:

Three Proofs That TSM is Efficient


Hi Taylor,

I don't believe John is an academic himself, and I think this OSU Fisher School prof's view is more representative in stating that "proofs" of this stuff often depend on a variety of unrealistic assumptions, e.g., the "complete agreement" assumption.

http://fisher.osu.edu/~diether_1/b722/capm_2up.pdf

Having said that, I'm personally partial to Malkiel's good old fashioned monkeys-throwing-darts argument. That is, I suspect that most anyone who gradually buys and sells a big diversified bunch of assets at the various prices offered over time will do just fine.

Best,
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Postby baw703916 » Tue Aug 16, 2011 8:07 pm

Rick Ferri wrote:Random Walker

At times that is true, but not all the time. Small value investors suffered terribly from 1998-1999 when large growth stocks were all the rage. This created a big sucking sound out of small value. Even DFA suffered.

My question is this, how long will the typical investor stick with a heavy small-value tilt when large growth dominates the markets again? Most "DFA advisors" have not been around long enough to know that answer. But I know. It isn't very long.

Rick Ferri


So in other words, we need better investors! Not necessarily better portfolios...
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Postby staythecourse » Tue Aug 16, 2011 8:32 pm

Rick Ferri wrote:
staythecourse wrote:You do realize gold was on the gold standard until 1970 or so?

Good luck.


This doesn't change the fact that gold is trading between 3x and 4x its long-term inflation adjusted value. Consequently, eventually either global inflation will skyrocket or gold will fall back in line.

I believe one of the *new* things about gold is that it can now be bought in paper form via an ETF. The ETF market has taken a rather illiquid asset and made it as liquid as a blue-chip stock. This created a huge demand from people who would not ordinarily be in the gold market. A large shift in demand without a corresponding large shift in supply will always push a commodity's price higher than it's true economic value.

All supply and demand shocks eventually work themselves out as more of the commodity comes to the market as a result of higher prices and fewer people take an interest in the product. No one knows when or at what price gold will peak, but when it does, don't be near the door.

Rick Ferri


Unlike you I will be more then happy when my gold allocation comes back to earth as my long term treasuries, because the only way that will happen is if we are in a robust economy and then my stocks will be taking off to compensate. That to me is true diversification.

Good luck.
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