Do You Believe Diversification Is The Right Strategy Only If The Investment Horizon Is Long?

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Random Walker
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Do You Believe Diversification Is The Right Strategy Only If The Investment Horizon Is Long?

Post by Random Walker » Sat Aug 18, 2018 8:32 am

I was just thumbing through Larry Swedroe’s book Investment Mistakes Even Smart Investors Make And ahow To Avoid Them. It’s a great book, easy to read, and I think Larry has said it’s his favorite of the one’s he’s written so far. There is a chapter (all of 3 pages) titled “Do You Believe Diversification Is The Right Strategy Only If The Investment Horizon Is Long?”, and I thought it might be a good topic to discuss.

Pretty sure we all agree that the shorter the horizon, the more should be allocated to safe bonds. But how about other asset classes, international, factors, styles, alternatives? Frequently people say something to the effect that they are interested in value tilting, but not sure they are willing to wait long enough to see if it outperforms. Larry makes the point that that sort of thinking could be backwards. In a world where we don’t know at all what will perform well over short periods, diversification can become very important over the short term as well. Diversification is important no matter the time frame. There has been discussion lately about sequence of returns risk. One way to mitigate this risk is broad diversification. Whether one’s version of equity diversification is just a little SV or international, or widely across factors, there are strong benefits to diversification in the short run too.

Strongly recommend Larry’s Investment Mistakes Even Smart Investors Make And How To Avoid Them. The book covers 77 mistakes, each in very short and easy to read chapters.

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Re: Do You Believe Diversification Is The Right Strategy Only If The Investment Horizon Is Long?

Post by spdoublebass » Sat Aug 18, 2018 9:26 am

Random Walker wrote:
Sat Aug 18, 2018 8:32 am
I was just thumbing through Larry Swedroe’s book Investment Mistakes Even Smart Investors Make And ahow To Avoid Them. It’s a great book, easy to read, and I think Larry has said it’s his favorite of the one’s he’s written so far. There is a chapter (all of 3 pages) titled “Do You Believe Diversification Is The Right Strategy Only If The Investment Horizon Is Long?”, and I thought it might be a good topic to discuss.
I recently have been mulling this question myself. I do not have an answer as of yet. I am saving for a specific goal, roughly ten years away (non retirement). Anyway, I want to put a portion of the money in stocks, but had to decide on US only, or include international.

When I ask myself these questions the behavioral side of things takes over for me, which I do not like. For some reason my gut tells me just use TSM or SP500, but my brain tells me to diversify.
As for bonds, never even considered adding International.

Interested to read other peoples thoughts.
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Re: Do You Believe Diversification Is The Right Strategy Only If The Investment Horizon Is Long?

Post by Random Walker » Sat Aug 18, 2018 9:45 am

Spdoublebass,
I’d say go with your mind. When any factor, including the market factor, can underperform at any time and for long periods of time, makes sense to diversify broadly. International valuations are significantly less than US currently, so while market timing is a bad idea, if you’re going to improve portfolio efficiency by adding international, not a bad time to do it.

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Re: Do You Believe Diversification Is The Right Strategy Only If The Investment Horizon Is Long?

Post by k66 » Sat Aug 18, 2018 9:48 am

That is a good question. For myself, I have two saving streams that are not specifically "long-term", so I suppose they could be considered short(er) term. One is for my daughter's university studies and will be depleted in the next two to three years. The other is a simple "general all purpose" savings account for immediate needs at indeterminate times.

But in both accounts, I selected a bond fund a the method of investment; so "safe", as in "no equities", but diversified in the duration, type and number of holdings in the fund.
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Re: Do You Believe Diversification Is The Right Strategy Only If The Investment Horizon Is Long?

Post by asif408 » Sat Aug 18, 2018 9:53 am

I guess it depends what you mean by short term. If you are saying less than 2-3 years, diversification on the stock side probably won't matter nearly as much as you overall stock bond allocation, as you US and international stocks or value and growth stocks will probably go down together during a downturn, though maybe one to a slightly lesser extent than the other.

Over longer periods, however, you are likely to have a higher stock allocation and the diversification benefits of other asset classes becomes more important. For instance, from 1999-2008 the S&P had a negative return and emerging markets value stocks returned 250%. But during the 2000-2002 crash and the 2007-2009 crash they both cratered, the former worse during the dot com bubble and the latter worse during the financial crisis. It's just that EM value went on a tear when things were going up that made the difference.

Sure, it's possible you might earn a positive return during a downturn in certain areas, such as REITs and precious metals equities did during the dot com bubble. But that usually requires buying into an asset that has been falling for a while, and if you have a short investment horizon that is hard to do, because it may keep falling.

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Re: Do You Believe Diversification Is The Right Strategy Only If The Investment Horizon Is Long?

Post by columbia » Sat Aug 18, 2018 10:03 am

Currency risk is real and I will allow for that in non-accumulation years.

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Re: Do You Believe Diversification Is The Right Strategy Only If The Investment Horizon Is Long?

Post by packer16 » Sat Aug 18, 2018 10:07 am

The issue with diversification beyond bonds for the short term is every asset class except bonds has positive correlation with equities when they go down. There was very interesting article in the CFA Journal this month on this. They found that when a stock selloff hits, the correlation of otherwise non correlated assets become correlated with stocks over the period 1970 to 2017. They differentiate left-tail correlations (stock selloffs) with right-tail correlations (stock rallies). They tested all the factors value, momentum & size in addition to other asset classes like real estate, EM stocks, Int'l stocks, corp & high-yield bonds, currency, merger arbitrage & macro. The net result is diversification in non-bond asset classes do not do a good job of protecting against equity declines because the correlations increase as stocks sell-off. As a matter of fact, the diversification benefit of non-bond assets is present when stocks rally presumably when you do want high correlation. The name of the article is "When Diversification Fails". The bottom line I take is you can diversify into other asset classes (beyond bonds) but should feel confident that the additions will add expected value because the diversification will not help in an equity selloff.

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Re: Do You Believe Diversification Is The Right Strategy Only If The Investment Horizon Is Long?

Post by Random Walker » Sat Aug 18, 2018 10:17 am

packer16 wrote:
Sat Aug 18, 2018 10:07 am
The issue with diversification beyond bonds for the short term is every asset class except bonds has positive correlation with equities when they go down. There was very interesting article in the CFA Journal this month on this. They found that when a stock selloff hits, the correlation of otherwise non correlated assets become correlated with stocks over the period 1970 to 2017. They differentiate left-tail correlations (stock selloffs) with right-tail correlations (stock rallies). They tested all the factors value, momentum & size in addition to other asset classes like real estate, EM stocks, Int'l stocks, corp & high-yield bonds, currency, merger arbitrage & macro. The net result is diversification in non-bond asset classes do not do a good job of protecting against equity declines because the correlations increase as stocks sell-off. As a matter of fact, the diversification benefit of non-bond assets is present when stocks rally presumably when you do want high correlation. The name of the article is "When Diversification Fails". The bottom line I take is you can diversify into other asset classes (beyond bonds) but should feel confident that the additions will add expected value because the diversification will not help in an equity selloff.

Packer
Excellent points. Correlations of risky assets tend to go to one in bad times. One can improve overall portfolio efficiency by diversifying as broadly as possible within the risky higher expected return stock like assets and at the same time increasing the overall safe bond allocation. One can lessen the left tail risk while keeping portfolio expected return about constant by diversifying into riskier asset classes like SV and EM on the equity side and at the same time increasing the safe bond allocation. A move towards more of a risk parity portfolio. Larry describes this in his Black Swans book. This should also lessen volatility drag on the portfolio.

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Re: Do You Believe Diversification Is The Right Strategy Only If The Investment Horizon Is Long?

Post by galeno » Sat Aug 18, 2018 10:23 am

Diversification is the only free lunch in investing. But it can be overdone.
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Re: Do You Believe Diversification Is The Right Strategy Only If The Investment Horizon Is Long?

Post by Random Walker » Sat Aug 18, 2018 10:29 am

galeno wrote:
Sat Aug 18, 2018 10:23 am
Diversification is the only free lunch in investing. But it can be overdone.
In the past I’ve said that each step towards increased portfolio efficiency comes at increasing marginal cost and decreasing marginal benefit. Is that what you mean? I agree that the best diversifier of equity risk is also the cheapest: bonds.

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Re: Do You Believe Diversification Is The Right Strategy Only If The Investment Horizon Is Long?

Post by arcticpineapplecorp. » Sat Aug 18, 2018 11:10 am

You're question is broad based but your post is more about the types of diversification (whether international, value tilt, etc. is helpful in the short and long term). I guess the devil's in the details. For instance, if my time horizon is short (say 2 years) why would I want to put any assets into stocks, international, value or whatever? Shouldn't I just keep it safe in CDs or short term bonds, or a high yield savings acct, etc. Not sure how added diversification (of risky assets) helps with a short term "need".

So that's where I think the terms "investment horizon" and "is not long" (which is what you're really asking), are contradictory. You can't invest for the short term. I mean, you can, but then you're taking risk you perhaps should not be assuming. So by definition, isn't investing done over the long term? Some may quibble and say, "But you just said you'd put it into short term bonds...those are investments, right?" True, but there are safer investments and riskier investments. I think that just because Value or International stocks may zig when the rest of the market zags (as in the early 2000s) doesn't in and of itself make international or value stocks "less risky" than owning the market.

Asked of William Sharpe:
SITV: So what would you say are the golden rules of investing?

William Sharpe: There is a rule in real estate that the three most important things are location, location, location. My rule in investments is that the three most important things are diversify, diversify, diversify. And then I’ll give you three more: keep costs low, keep costs low, keep costs low. The simplest way of dealing with it is via a very broadly diversified, very low-cost index fund. You can do it in other ways that would be a lot more expensive. But at least worry a lot about diversification and cost.
source: https://www.sensibleinvesting.tv/willia ... -investing
By the way, is this Swedroe book a follow up or revised edition to Rational Investing in Irrational Times : Investment Mistakes Even Smart Investors Make and How to Avoid Them"? The title (the part after the colon is the same) but the book you reference has 77 investment mistakes while the one I have (Rational Investing...) contains 52 mistakes. Did he find 25 more and if so what are they?
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Re: Do You Believe Diversification Is The Right Strategy Only If The Investment Horizon Is Long?

Post by Random Walker » Sat Aug 18, 2018 11:44 am

arcticpineapplecorp. wrote:
Sat Aug 18, 2018 11:10 am

By the way, is this Swedroe book a follow up or revised edition to Rational Investing in Irrational Times : Investment Mistakes Even Smart Investors Make and How to Avoid Them"? The title (the part after the colon is the same) but the book you reference has 77 investment mistakes while the one I have (Rational Investing...) contains 52 mistakes. Did he find 25 more and if so what are they?
Yes, he updated the book and added more

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Re: Do You Believe Diversification Is The Right Strategy Only If The Investment Horizon Is Long?

Post by daveydoo » Sat Aug 18, 2018 11:51 am

In response to the title question only, isn't diversification less important the longer the investment horizon? Unless you need to lump-sum withdraw and are then subject to short-term market effects. I think diversification -- presumably meaning multiple asset classes with limited correlation -- is far more important short-term than long term.
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Re: Do You Believe Diversification Is The Right Strategy Only If The Investment Horizon Is Long?

Post by TD2626 » Sat Aug 18, 2018 7:05 pm

At first glance it would seem like diversification is more important the longer the time horizon. Conventionally, if one's time horizon is short (a few years), one can have a FDIC-insured cash account or a short-term, high credit quality bond fund. If the time horizon is medium (several years to 10 years) one would mostly have bonds, which would benefit from diversification -- but likely not as much as stocks (provided one is in something like a high quality bond fund).

Things like tilting towards small cap stocks, for example, would seem to require the very longest of time horizons (40+ years) to allow for multiple periods of underperformance and overperformance vs a non-tilted portfolio. That seems like a reason many would consider avoiding these sorts of complex tilts - they are best if one can stay the course for longer than most people have.

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Re: Do You Believe Diversification Is The Right Strategy Only If The Investment Horizon Is Long?

Post by acegolfer » Sat Aug 18, 2018 7:53 pm

No. I believe diversification is the right strategy for both long and short investment horizon. TBH, I don't follow the logic why diversification is the right strategy only if the investment horizon is long. Can someone explain more?

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Re: Do You Believe Diversification Is The Right Strategy Only If The Investment Horizon Is Long?

Post by abuss368 » Sat Aug 18, 2018 7:58 pm

Bogleheads -

I am of the opinion that diversification is the only free lunch and is important at any age. Develop a suitable asset allocation based on timeframe, tolerance for risk, and goals.
Last edited by abuss368 on Sun Aug 19, 2018 9:37 am, edited 1 time in total.
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Re: Do You Believe Diversification Is The Right Strategy Only If The Investment Horizon Is Long?

Post by deikel » Sat Aug 18, 2018 8:39 pm

You can turn the argument around to get some clarity,

If your investment horizon is short (say couple of years), you are not investing, you are gambling. If you are gambling, why would you diversify ?

For short term investors, it seems to make no sense to me to diversify to mitigate risk. The mitigation over the long term is what reduces the risk, diversification reduces the risk some more (but less so than a long time horizon). So, for short investment periods you either stay in safe investments to begin with (savings account, CD, money market, maybe bonds) or you gamble with your eyes open. Diversified gambling is still gambling albeit with the self deceiving aspect of non existent safety.
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Re: Do You Believe Diversification Is The Right Strategy Only If The Investment Horizon Is Long?

Post by TD2626 » Sat Aug 18, 2018 8:54 pm

If your horizon is short (several years) maybe "saving" is a more appropriate term than "investing". Since a horizon that short calls for low-risk investments (like US Treasury Bills or FDIC savings accounts) you probably don't need do diversify as much.

Basically, because riskier investments (stocks instead of bonds) are the right strategy (in general) if the horizon is long (decades), and since diversification is likely more important for risky investments (stocks can go bankrupt or decline by 90% while short term treasuries are widely regarded as very safe) diversification is more more important if the horizon is long. Of course, diversification is always important.

For example ---

An investor with a few decade horizon invests mainly in stocks. They need exposure to a large number - preferably thousands - of stocks to be well diversified. (This would be done with funds).

An investor with a few year horizon invests in cash-type accounts. They don't need to get several thousand CDs from several thousand different banks.

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Re: Do You Believe Diversification Is The Right Strategy Only If The Investment Horizon Is Long?

Post by NYCguy » Sun Aug 19, 2018 8:03 am

Random Walker: Love your posts.

Shorter time horizon and less diversification equals less investing and more speculation.

Shorter time horizon and less speculation requires less investments and more safe savings.

I do not think identifying factors, non-correlated assets or concentrations within risk based assets works in a short horizon without being speculation. I know you are a student of those approaches in a longer time horizons but that is a different topic.
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Re: Do You Believe Diversification Is The Right Strategy Only If The Investment Horizon Is Long?

Post by Random Walker » Sun Aug 19, 2018 8:31 am

NYCguy wrote:
Sun Aug 19, 2018 8:03 am
Random Walker: Love your posts.

Shorter time horizon and less diversification equals less investing and more speculation.

Shorter time horizon and less speculation requires less investments and more safe savings.

I do not think identifying factors, non-correlated assets or concentrations within risk based assets works in a short horizon without being speculation. I know you are a student of those approaches in a longer time horizons but that is a different topic.
Let’s say you’re a new retiree in your first year of withdrawal phase. You have a portfolio that is 60% risky assets with equity like expected returns and 40% bonds. Which would you consider more speculative, the case where the 60% is all TSM or the case where the 60% is divided up 10% TSM, 10% Int Dev, 10% US SV, 10% ISV, 10% EMV, 10% Alternatives?

We invest for the long term, but need to live through the short terms to get there. My own highly biased belief is that it’s more speculative to put all of one’s risk into a single factor, market beta. Diversifying across uncorrelated sources of return is much less speculative.

And to make the above example even more relevant, the way I formulated the question above generates a 60/40 portfolio with a substantially higher expected return than 60/40 TSM portfolio. To really make an apples to apples comparison, we should cool off the diversified portfolio to something with more similar expected return, say 40/60 (6.7% TSM, 6.7% Int Dev, 6.7% US SV, 6.7% ISV, 6.7% EMV, 6.7% Alts). Diversifying acrosss uncorrelated sources of return decreases the likelihood of a negative outcome over shorter time periods substantially. Of course the increased costs of this diversification compared to TSM are substantial!

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Re: Do You Believe Diversification Is The Right Strategy Only If The Investment Horizon Is Long?

Post by bertilak » Sun Aug 19, 2018 9:25 am

Interesting question -- makes one think. Here are my thoughts:

You can't judge the rightness or wrongness of a strategy without knowing what that strategy is meant to accomplish. A couple of opposing possibilities:
  1. Safety
  2. Beat the market
Diversification adds safety by reducing tails, both good and bad.

If you want to beat the market you can't track the market (e.g. be diversified). But, anything that gives you a chance to beat the marked also gives you a chance to be beat BY the market.

A longer investment horizon is said to be safer but I don't think that's due to inherently reduced market risk but instead because you have more time to recover from bad results: Earn, save and invest more. Cut back spending.
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Re: Do You Believe Diversification Is The Right Strategy Only If The Investment Horizon Is Long?

Post by acegolfer » Sun Aug 19, 2018 9:35 am

Random Walker wrote:
Sun Aug 19, 2018 8:31 am
My own highly biased belief is that it’s more speculative to put all of one’s risk into a single factor, market beta. Diversifying across uncorrelated sources of return is much less speculative.
In a multi-factor asset pricing model, each factor represents a specific risk. When you add another factor to your TSM ptf, you get exposed more (not less) to that specific risk.

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Re: Do You Believe Diversification Is The Right Strategy Only If The Investment Horizon Is Long?

Post by NYCguy » Sun Aug 19, 2018 10:42 am

Random Walker wrote:
Sun Aug 19, 2018 8:31 am
NYCguy wrote:
Sun Aug 19, 2018 8:03 am
Random Walker: Love your posts.

Shorter time horizon and less diversification equals less investing and more speculation.

Shorter time horizon and less speculation requires less investments and more safe savings.

I do not think identifying factors, non-correlated assets or concentrations within risk based assets works in a short horizon without being speculation. I know you are a student of those approaches in a longer time horizons but that is a different topic.
Let’s say you’re a new retiree in your first year of withdrawal phase. You have a portfolio that is 60% risky assets with equity like expected returns and 40% bonds. Which would you consider more speculative, the case where the 60% is all TSM or the case where the 60% is divided up 10% TSM, 10% Int Dev, 10% US SV, 10% ISV, 10% EMV, 10% Alternatives?
By speculative I interpret you to be asking which would be more volatile on a short term basis. Someone smarter than me could presumably back test and regression test your question, but in a down market, I suspect losses on the two alternative portfolios would be highly correlated. Whether the second portfolio will outperform on an absolute or risk adjusted basis is a question that I believe you have thought about deeply and I do not have a view on, other than to say my equity allocations are 70% TSM, 25% International and 5% PE/VC. If I had the time, interest and talent I would diversify into investment real estate, but I do not.
Random Walker wrote:
Sun Aug 19, 2018 8:31 am
]We invest for the long term, but need to live through the short terms to get there.
True, but I think this is the sequence of returns problem, one’s withdrawl strategy, LMP problem. I think you have considered this too. My instinct is that the two portfolios would not have a materially different outcome but I would be interested in academic literature that analyzes the issues of sequence of return risk, withdrawl strategy and portfolio construction.
Random Walker wrote:
Sun Aug 19, 2018 8:31 am
My own highly biased belief is that it’s more speculative to put all of one’s risk into a single factor, market beta. Diversifying across uncorrelated sources of return is much less speculative.
Maybe so, but the question is is it really “diversifying“ and “uncorrelated”? Again, in the short run I think your question is one of volatility and my instinct is it does not matter.
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Re: Do You Believe Diversification Is The Right Strategy Only If The Investment Horizon Is Long?

Post by nedsaid » Sun Aug 19, 2018 10:50 am

packer16 wrote:
Sat Aug 18, 2018 10:07 am
The issue with diversification beyond bonds for the short term is every asset class except bonds has positive correlation with equities when they go down. There was very interesting article in the CFA Journal this month on this. They found that when a stock selloff hits, the correlation of otherwise non correlated assets become correlated with stocks over the period 1970 to 2017. They differentiate left-tail correlations (stock selloffs) with right-tail correlations (stock rallies). They tested all the factors value, momentum & size in addition to other asset classes like real estate, EM stocks, Int'l stocks, corp & high-yield bonds, currency, merger arbitrage & macro. The net result is diversification in non-bond asset classes do not do a good job of protecting against equity declines because the correlations increase as stocks sell-off. As a matter of fact, the diversification benefit of non-bond assets is present when stocks rally presumably when you do want high correlation. The name of the article is "When Diversification Fails". The bottom line I take is you can diversify into other asset classes (beyond bonds) but should feel confident that the additions will add expected value because the diversification will not help in an equity selloff.

Packer
Yep, in really bad markets the only thing that goes up is correlation. One reason I hesitate about plowing into Alternatives because my suspicion is that they will correlate with stocks in the event of a big stock sell-off. It seems that the best strategy against market volatility is just to wait it out.

Sometimes the strategy of filling a portfolio with non-correlating asset classes works and sometimes it doesn't. 2000-2002 was a success and 2008-2009 was a big fail, during the latter bear market only nominal Treasuries and Government Agency Bonds worked. Corporates and TIPS got hit hard despite being investment grade.
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Re: Do You Believe Diversification Is The Right Strategy Only If The Investment Horizon Is Long?

Post by nedsaid » Sun Aug 19, 2018 2:43 pm

stlutz wrote:
Sun Aug 19, 2018 11:26 am
This is my favorite treatment of the subject:

http://www.psyfitec.com/2010/10/diworsi ... r-you.html
I did like the article but I will take issue with this:

Consider two portfolios each of fifteen stocks. Each stock holding costs us a thousand dollars. After ten years all fifteen stocks in the first portfolio have doubled and are now worth two thousand bucks each. In the second fourteen of the stocks haven’t changed their price at all but the fifteenth holding has multiplied sixteen times and is now worth sixteen thousand dollars.
And, unfortunately, it’s the second portfolio with a host of very average performers and the odd standout success that’s more typical of the real markets.


I think the article is generally good but this seems like a bit of overstretch. For one thing, neither of these scenarios has fit with my real life experience. I keep reading these articles that say something like the whole return from the stock market comes from a handful of stocks, etc. etc. etc. I probably have owned 50-60 individual stocks in my lifetime and this just isn't so. Yes you have your superstocks in a portfolio but within an index you have stocks that advance and stocks that decline daily, weekly, monthly, and yearly. You have a couple really big winners, winners, stocks that do as expected, stocks that disappoint and a couple that bomb.

What are people doing out there? Buying the speculative mining stocks on the Vancouver Stock Exchange? Buying on the Over The Counter Bulletin Board? Trading out there on the Wild West?

I would expect average investors picking stocks to underperform the averages and I would attribute that to bad investor behavior. Chasing hot stuff, too much trading, lack of patience. My gosh, The Wall Street Journal used to throw darts at a stock page and outperform picks of money managers. Active funds underperform because of costs and excessive turnover and not because they miss the superstocks.
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Re: Do You Believe Diversification Is The Right Strategy Only If The Investment Horizon Is Long?

Post by spectec » Sun Aug 19, 2018 3:12 pm

The only way a short-term horizon would cause you to do anything other than diversification is to only buy something you know for certain will increase significantly over the short term. But if it were possible to actually do that, you'd be smart to keep it long term.
Don't gamble; take all your savings and buy some good stock and hold it till it goes up, then sell it. If it don't go up, don't buy it. - Will Rogers

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Re: Do You Believe Diversification Is The Right Strategy Only If The Investment Horizon Is Long?

Post by JoMoney » Sun Aug 19, 2018 3:16 pm

nedsaid wrote:
Sun Aug 19, 2018 2:43 pm
... I keep reading these articles that say something like the whole return from the stock market comes from a handful of stocks, etc. etc. etc. I probably have owned 50-60 individual stocks in my lifetime and this just isn't so. Yes you have your superstocks in a portfolio but within an index you have stocks that advance and stocks that decline daily, weekly, monthly, and yearly. You have a couple really big winners, winners, stocks that do as expected, stocks that disappoint and a couple that bomb.

What are people doing out there? Buying the speculative mining stocks on the Vancouver Stock Exchange? Buying on the Over The Counter Bulletin Board? Trading out there on the Wild West?

I would expect average investors picking stocks to underperform the averages and I would attribute that to bad investor behavior. Chasing hot stuff, too much trading, lack of patience. My gosh, The Wall Street Journal used to throw darts at a stock page and outperform picks of money managers. Active funds underperform because of costs and excessive turnover and not because they miss the superstocks.
:thumbsup
I agree. I see people on this board make similar claims frequently. The Dow 30 with its history (despite the haphazard price-weighting scheme) is the easiest example to the contrary. If the portfolio is mostly large-cap stocks, and a modest amount of scrutiny to the risks of a specific company tempered with diversification... it's not that big of a deal. If you're looking at small-cap stocks and IPOs though, I think the concern goes up quite a bit.
"To achieve satisfactory investment results is easier than most people realize; to achieve superior results is harder than it looks." - Benjamin Graham

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nedsaid
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Re: Do You Believe Diversification Is The Right Strategy Only If The Investment Horizon Is Long?

Post by nedsaid » Sun Aug 19, 2018 9:46 pm

JoMoney wrote:
Sun Aug 19, 2018 3:16 pm
nedsaid wrote:
Sun Aug 19, 2018 2:43 pm
... I keep reading these articles that say something like the whole return from the stock market comes from a handful of stocks, etc. etc. etc. I probably have owned 50-60 individual stocks in my lifetime and this just isn't so. Yes you have your superstocks in a portfolio but within an index you have stocks that advance and stocks that decline daily, weekly, monthly, and yearly. You have a couple really big winners, winners, stocks that do as expected, stocks that disappoint and a couple that bomb.

What are people doing out there? Buying the speculative mining stocks on the Vancouver Stock Exchange? Buying on the Over The Counter Bulletin Board? Trading out there on the Wild West?

I would expect average investors picking stocks to underperform the averages and I would attribute that to bad investor behavior. Chasing hot stuff, too much trading, lack of patience. My gosh, The Wall Street Journal used to throw darts at a stock page and outperform picks of money managers. Active funds underperform because of costs and excessive turnover and not because they miss the superstocks.
:thumbsup
I agree. I see people on this board make similar claims frequently. The Dow 30 with its history (despite the haphazard price-weighting scheme) is the easiest example to the contrary. If the portfolio is mostly large-cap stocks, and a modest amount of scrutiny to the risks of a specific company tempered with diversification... it's not that big of a deal. If you're looking at small-cap stocks and IPOs though, I think the concern goes up quite a bit.
Thank you. People repeat stuff like gospel when it just isn't so. The other big piece of hogwash I read is gee whiz, except for the super stocks the stock market has Treasury Bill returns. These silly studies must be taking into account the thinly traded pink sheet stocks, the NASDAQ OTC Bulletin Board, the Vancouver Stock Exchange and all the speculative junk that really is not investable by institutions. If the market is really carried by a few super stocks, then the markets are really not efficient after all. With my individual stocks, I am Value oriented so I actually try to avoid the high fliers, the FAANG stocks and such. Despite my lack of super stocks, my individual stock portfolio has about matched the market averages.

How could throwing darts at a stock page more often than not beat the picks of top money managers? The Wall Street Journal ran such a column for several years.

And yes, the DOW doesn't have the FAANG stocks in it save for Apple. The DOW has 30 Stocks and yet has been a good investment. From what I could see, over time the S&P 500 has outperformed the DOW 30. Interesting that my individual stocks have nine of the DOW 30 stocks. So pretty much, I have sampled the market and pretty much matched the market.

Two of my super stocks were Plum Creek and StanCorp. StanCorp I made probably 9 times my original investment, holding it about 16 years or so. These were hardly high flying Tech stocks. They were regional companies not hugely followed by Wall Street analysts.
A fool and his money are good for business.

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