The Death of Another Investment Adage

April 8, 2011

James Stewart of SmartMoney has a must-read article, Why Age Alone Shouldn’t Drive Asset Allocation, refuting one of the mostly widely accepted (and wrong in his opinion and mine) investment adages.

A time-honored investment adage is that your asset allocation should mirror your age: 60/40 stocks and bonds at age 40; 50/50 at fifty; 40/60 at sixty and so on. An entire industry of so-called target-date funds has grown in recent years to help investors implement this simple strategy. Many of these funds, which are a popular option in 401(k) plans, target an investor’s expected retirement date and then allocate and re-balance accordingly.

On the face of it, the logic of increasing an allocation to less-risky and volatile bonds as one gets older seems unassailable. As investors approach and enter retirement, their ability to earn their way out of a stock-market plunge evaporates. So does their ability to outlive a market decline.

So what’s wrong with the allocation adage and the many funds based on it?

Plenty. Like many adages, this one strikes me as grossly simplistic at best, and dangerous at worst.

I don’t know when the age/allocation rule originated, but it must have been a time when bonds were yielding considerably more than the near-zero investors are facing today. The Wall Street Journal ran a front-page article this week illustrating the hardships the Federal Reserve has inflicted on retirees trying to eke out a living from their savings. The 10-year Treasury is yielding a paltry 3.46%, which could easily be eaten away by loss to principal should yields go up, as they surely will someday.

As Stewart points out, interest-rate risk is something that must be considered before blindly increasing fixed income exposure as you age. One of the great advantages that relative strength-driven tactical asset allocation strategies have over target date funds is the ability to keep the portfolio fresh with those asset classes that are performing well and to underweight or eliminate exposure to weak asset classes. Just because fixed income has had a great run over the past three decades doesn’t mean that it will work out so well going forward.  In fact, investors should be aware that there have been plenty of periods where fixed income has performed abysmally.

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Marc Faber on QE

April 8, 2011

Fascinating interview with Marc Faber on quantitative easing.  His comments on why quantitative easing is especially beneficial to the wealthy are important because they provide insight into the types of investment practices that must be put in place to capitalize.

 

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Money Goes Where It Is Treated Best

April 8, 2011

If you ever had a doubt that this old adage was true, consider the following gem from the Wall Street Journal’s Wealth Report:

The family office of the Johnson family, which runs Fidelity and which has a net worth in the billions of dollars, recently moved from Massachusetts to New Hampshire, which doesn’t tax many forms of income from trusts. (Their offices are now a mere three miles over the border, lest they also sacrifice convenience).

New Hampshire, in fact, has become a kind of mini-Switzerland for wealthy Northeast families. Trust assets under management by banks and trust companies up north have jumped 70% over the past five years, to $311 billion in 2010, from $184 billion in 2005, according to the New Hampshire State Banking Department.

The Boston Herald says trust companies are “cropping up like tax-free liquor stores in southern New Hampshire.”

This is true not just in New Hampshire, but around the globe.  Money seeks out opportunity and growth, whether it is in the U.S. or not.  (Not a bad argument to consider Global Macro as part of a core investment allocation.)  There are almost always lots of places that are relatively attractive for investment—you just have to expand your horizons.

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Sector and Capitalization Performance

April 8, 2011

The chart below shows performance of US sectors and capitalizations over the trailing 12, 6, and 1 month(s).  Performance updated through 4/7/2011.

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