I suspect that this is the most important subject in investment. Should you hold bonds? Should you hold gold? Should you have “emerging” equities? Should you buy fine wines and, if so, should you drink them? There is so much learned and well-reasoned but flatly contradictory advice that it is difficult to know who to listen to. To take a few recommendations:
- 60:40 portfolio. 60% equities and 40% bonds is the traditional formula. This has yielded, broadly, most of the gains available from the equity markets with reduced volatility. The key is to rebalance your portfolio when allocations get out of line. This implies that you are buy whichever asset class has underperformed, presumably while it is cheap relative to its bedfellow. Presumably all that you require is an S&P index tracker and a total bond market tracker but, once experts get their hands on the idea, these simple categories get subdivided into all manner of obscure smaller categories within the equity and bond fields.
- “Harry Browne Permanent Portfolio”. This comprises 25% stocks, 25% long-term US treasuries, 25% cash, and 25% gold. The theory, I would guess, is that due to the low correlation between these asset classes, at least one part of the portfolio will perform strongly whatever the economic weather, i.e. recession, growth, inflation, or deflation. According to results I can find, this method returned 9.5% annually from 1972 to 2011. (www.marketwatch.com/story/a-portfolio-for-all-seasons-2013-07-19). Again, rebalancing is key so that you buy assets after they have underperformed in order to profit from their coming outperformance.
- Bonds as per your age portfolio. Another popular rule of thumb is to hold a percentage of bonds that matches your age. i.e. if you are 20, then hold 20% in bonds, and if you are 60 then 60%. The theory here is that, as you get older you have less time to ride out equity market slumps. Traditionally, bonds also pay out more cash than equities too and so you should benefit from a greater proportion of your returns being in the form of cash for disposing of, rather than earnings being invisibly reinvested. Due to the scarcity of pockets on a shroud, there would seem little point reinvesting for long-term growth if you are on your last lap.
- Buffett’s Widow Portfolio, which comprises 90% in a low-cost S&P 500 index tracker and 10% short-term government bonds. You can read about this in his latest investor letter for 2013. This should over time, without doubt, beat a large majority of other strategies simply due to the minimal impact of management fees and relative inflation-proofing provided by equities.
- Ben Graham’s Defensive Investor portfolio recommends two holdings: equities and bonds. The neutral position should be 50:50 but the Defensive Investor is allowed to vary this so that the equity component can rise to 75% or drop to 25%, according to the relative strength of the stock and bond market propositions. And there, I fear, lies the rub. Adjudicating on that matter is far from easy. Perhaps 50:50 would be better. But, would BG have given the same advice if the government had been printing money to depress the price of its own debt? Should this gaming of the system not cast suspicion on the market price of these bonds and cause the prudent investor to pause for thought before putting 50% of his savings into them?
- Talmudic portfolio. For those of a more spiritual disposition, the sages of Talmud dispensed what is believed to be the earliest advice. A third of your pot should be in land, another third in commerce, and the final third kept at hand. So, cash, land, and equities. You can read about this guideline, and the more important framework within which it resides, here: http://www.jewishworldreview.com/jewish/ethicst_talmudic_investing.php3#.UyH2lruPOW8
- Dollar cost averaging. This assumes that, as equities promise the highest returns over time, you should invest in this asset class rather than others and suggests that they way to do it is to buy more stocks when the market is level low and fewer when it is higher. This is not actually as difficult as it sounds – you just need to put in roughly the same amount of money year after year or month after month. If you have the means and the discipline to do this, dollar cost averaging is a practicable method of investment which reduces the risk of putting everything into the market just before it rolls over. Indeed, Ben Graham says of this approach “If you can do that [dollar cost averaging] you are guaranteed satisfactory success in your investments.” (from “Securities In An Insecure World”, a lecture by Benjamin Graham, given at Town Hall, St. Francis Hotel, November 15, 1963.)
For all the brilliant minds that have turned their insightful attentions to the subject since, it doesn’t actually look as if all that much has been added over the decades (or centuries). I would guess that any of the above would work adequately, if you have the determination to stick to the method you choose for the long-term, rather than changing with the economic winds.