The foundation of the Monday Morning investment philosophy is based on a modified version of Jonathan Burton’s important article published on Sept. 2, 2010. The article is titled:
‘Nifty 50/50’ portfolio keeps investing simple
Low cost, low maintenance, long-term strategy anyone can use
It supports Gerald Loeb‘s thoughts on successful investing which we often quote. “It is far better to let cash lie idle than to buy just to “keep invested” or for “income.” In fact, it is really vital—and just this one point, in my opinion, represents one of the widest differences between the successful professional and the loss-taking amateur.”
Here is David Swensen on the subject: “…asset allocation accounts for the largest share of portfolio returns.” and “…security selection and market timing make no material contribution to returns…”
What is the ideal way to allocate our assets?
The late John Bogle, popularized Loeb’s and Swensen’s position on the subject. He himself kept 50% in US market index exchange-traded funds and 50% in cash or near-cash. With personalized variation, that 50/50 allocation would be suitable for most investors.
Bogle’s and Jonathan Burton’s article recommend using bonds for near-cash. When the article was published bonds were safe, effective and productive. That is no longer the case. Bonds have nowhere to go but down in value since interest rates have nowhere to go but up from this point. Therefore, the Monday Morning program recommends cash or other forms of near-cash (money markets, bank accounts, certificates of deposit) in spite of the fact that the returns are not very exciting. We also do not recommend investing outside the USA.
This post is longer than our usual ones because we reproduce Burton’s article its entirety. It follows.
SAN FRANCISCO (MarketWatch) — Investing is complex rocket science that requires professional help — at least that’s what the professionals usually say.
But a strong case can be made for investors following a design principle known as KISS, which in this case stands for “Keep it simple, saver.”
According to this principle, all you need are three diversified, index-tracking mutual funds or exchange-traded funds — one for U.S. stocks, one for international stocks and one for bonds. The portfolio must be rebalanced at least once a year to ensure that half of the money stays in stocks and half in bonds.
It’s boring and bland and won’t score you any points at parties, but this bare-bones approach — call it the “Nifty 50/50 Portfolio” — has made almost as much money as a more aggressive, stock-heavy strategy over the past 25 years and topped it over the past decade.
Moreover, investors in this 50/50 mix would have had some insulation from stock-market swings. When global markets imploded in 2008, the 50/50 blend lost 17%, compared with a 31% decline for a portfolio with 80% stocks and 20% bonds.
“By moving to a 50/50 stock-bond position, you would not forsake that much in return [over 25 years], and it would have reduced your risk considerably,” said Scott Kays, a financial adviser in Atlanta.
Because basic index funds are usually among the investment options in employer-sponsored retirement plans, the 50/50 portfolio is well-suited to people who primarily rely on a 401(k) or other retirement account to meet their long-term goals.
Many investors believe index funds’ inherent low cost and infrequent trading give them a big advantage over funds run by active managers, whose never-ending quest to beat a benchmark often fails and usually leads to higher fees. While not everyone favors index funds or thinks a 50/50 mix of stocks and bonds is risky enough for them to achieve their investment goals, there’s no denying that the Nifty 50/50’s simplicity can be a virtue.
“Keeping it simple is the path of least resistance,” said money manager Ted Aronson, whose Philadelphia-based firm, Aronson+Johnson+Ortiz LP, handles $18 billion of individual U.S. stocks for pension funds and other institutional clients.
Aronson spreads his own taxable money among an esoteric mix of stock- and bond-index funds, but he appreciates the 50/50 set up for its low-maintenance approach and for belting investors into their seats.
“There’s less chance of acting imprudently and selling at a panic low or jumping on a hot spot at the wrong time,” he says.
Power in lower risk
For a better understanding of how the Nifty 50/50 approach can lead to solid returns and a smoother ride down Wall Street, consider the results for two investment portfolios over the past 10, 15 and 25 years.
The first portfolio is the 50/50 combination, with 35% of assets in the Wilshire 5000 Total Market Index as a proxy for U.S. stocks, 15% in the MSCI EAFE Index to cover international stocks, and, for bonds, 50% to the Barclays Capital U.S. Aggregate Bond Index.
The second is an 80/20 mix that commits 65% to U.S. stocks, 15% to international stocks and 20% to bonds.
This analysis uses the returns of the indexes themselves and not investable funds or ETFs, because those portfolios weren’t all available 25 years ago. Returns for fund investors would have been slightly lower because of fund expenses and other costs. (Continue reading for examples of funds and ETFs that investors could use today to create this mix.)
A $10,000 investment in the 50/50 allocation made at the beginning of August 2000 and rebalanced yearly would have been worth $14,748 at the end of July 2010, for an annualized 4% return, according to investment researcher Morningstar Inc. Meanwhile, the 80/20 portfolio would have gained an annualized 1.9%, leaving an investor with $12,066.
Of course, the most recent decade has been terrible for stocks and terrific for bonds. What about the past 15 years, which includes the runaway bull market of the late 1990s?
Again, the advantage goes to the 50/50 split, which grew to $26,036 by July, or a 6.6% annualized gain — just edging out the $25,751 value of the 80/20 offering, which rose 6.5% yearly.
The 80/20 portfolio flexes its muscle over 25 years — a horizon retirement savers can appreciate. A $10,000 investment in August 1985 would have been worth $96,675 at the end of July, equal to a 9.5% yearly gain. The 50/50 allocation, meanwhile, would have been worth $87,515, for a 9.1% annualized return.
A difference of almost $10,000 is real money, but was it worth the risk? The 50/50 portfolio achieved 91% of the 80/20 portfolio’s gain, but with just two-thirds of the volatility — not a bad trade-off.
In addition, if like many 401(k) investors, you had diligently dropped $100 a month into the portfolio, the 50/50 mix would have achieved higher returns over both 10 and 15 years, and come within $1,350 of the riskier 80/20 portfolio over 25 years — essentially a tie.
Focus on costs
Keep in mind that bond-market returns have been strong over the past 25 years, and especially over the past decade. But if interest rates climb even moderately, bond returns will be lower over the next 25 years.
Will bonds continue to be a buffer for stocks?
“Bonds are a very broad asset class, and the answer depends on where you are investing in the bond market,” said Kays, the financial planner. In a rising-rate environment, short-term bonds, Treasury inflation-protected securities (or TIPS), and other fixed-income vehicles that aren’t sensitive to inflation and interest rates should provide a cushion, he said, while intermediate-term and longer-term bonds won’t.
To craft a Nifty 50/50 Portfolio, it’s important to focus on cost. Cheaper is better, as it enables more of your money to compound and grow over time.
At Vanguard Group, mutual funds that fit the bill include Vanguard Total Stock Market Fund VTSMX, +0.57% for U.S. stocks, Vanguard Total International Stock Index
Other options among ETFs include iShares Dow Jones U.S. Index IYY, +0.73% for U.S. stocks; iShares MSCI ACWI ex-US Index ACWX, +0.05% for international stocks; and iShares Barclays Aggregate Bond AGG, +0.22%.
“You’re trying to get a good combination of risk and return,” said Meir Statman, a finance professor at Santa Clara University in California, who studies investor behavior. “Risk is going to unnerve you at precisely the wrong time. If you can calm it down [with a 50/50 stock/bond mix] you can get most of the return and be able to sleep at night.”
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