* Your assessment is very important for improving the workof artificial intelligence, which forms the content of this project
Download Investment Seminar
Survey
Document related concepts
United States housing bubble wikipedia , lookup
Private equity secondary market wikipedia , lookup
Securitization wikipedia , lookup
Modified Dietz method wikipedia , lookup
Business valuation wikipedia , lookup
Stock valuation wikipedia , lookup
Systemic risk wikipedia , lookup
Stock trader wikipedia , lookup
Economic bubble wikipedia , lookup
Investment fund wikipedia , lookup
Financial economics wikipedia , lookup
Harry Markowitz wikipedia , lookup
Beta (finance) wikipedia , lookup
Transcript
Successful Investing is both a very simple and very complex process. It is very simple because a broad range of well diversified mixes of 4 or 5 index funds rebalanced regularly will out perform the vast majority of active managers over the long term. It is very complex because human nature makes it very difficult for most folks to keep it as simple as 4 or 5 index funds. Investment Seminar Overview Perceived Risk and Return go Hand in Hand Human Nature and Investment History You can’t earn higher returns unless you take greater perceived market risk Asset Allocation Asset allocation is the art of mixing asset groups that are not well correlated over time in order to reduce risk and improve returns The Business of Investing Human Nature has resulted in a long history of Market Bubbles followed by Serious Market Declines. They are part of investing and need to be anticipated and planned for. There are serious conflicts of interest in the vast majority of brokers, investment advisors, mutual funds, and the financial press that can pose a threat to you meeting your financial objectives. Implementation Thoughts on how to implement a low cost simple asset allocation plan to maximize the chances of you meeting your financial goals. Seminar Objectives My Objective today is to expose you to some key concepts of successful investing so you can start your start your own journey of discovery. I am going to cover only the key concepts today and it is not necessary for you to totally grasp everything we cover. I will have a list of suggested reading throughout the package and at the end that will further develop the concepts that we will cover or you can contact me after the program for additional clarification. Perceived Risk and Return go Hand in Hand You can’t earn higher returns unless you take greater perceived market risk Stocks and Bonds are good examples of differences in perceived market risk. It is generally believed that Stocks are perceived to be riskier than Bonds so you will generally earn higher long term returns with stocks than Bonds. Numerous studies for both the US and Overseas markets have shown that groups of stocks with higher perceived risk (small companies and value companies the K Marts) have higher returns than companies with strong growth history (the growth stocks or the Wal-Marts) You can’t earn higher returns unless you take greater perceived market risk When the economy is strong and the political outlook is favorable perceived risk is low so stocks and bonds will typically have strong historical returns, low yields and long term future returns are likely to be modest. Likewise when we have an economic crisis and the political outlook is unfavorable perceived risk is high so yields will fall increasing long term future returns of risky assets. Yield is both a measure of risk and long term (+10 year) market returns Yield is both a measure of risk and reasonable measure of long term (+10 year) market returns. During periods of economic uncertainty investors let prices of assets fall to a level that the corresponding yield will compensate them for the level of risk Future bond returns are the same as the dividend yield adjusted for any potential default. Long term stock returns = Stock market yield + long term dividend growth rate + an adjustment for perceived market risk. Yield is both a measure of risk and long term (+10 year) market returns Project ed Total return Actual Total return Perceived risk adjustmen t Time frame Dividend Yield Dividend Growth rate S&P500 20th Century 4.50% 5% 9.50% 9.60% 0.10% S&P500 19711998 3.70% 6.1% 9.80% 11.30% 2.10% High returns during this period were driven by an unprecedented bull market in the 1980s and 1990s in which stock yields were driven from a normal 4.7% to very unusual level of 1.1% indicating a low level of perceived market risk. Yield is both a measure of risk and long term (+10 year) market returns S&P500 19992008 1.70% 6% 8.00% 1% -7% Low returns during the last ten years have been driven by an increased perceived market risk in which stock yields have increased from 1.1% to a more normal 2.9% S&P500 2008 2.90% 6% 8.90% ? If history can be used as a guide during the next 10 years market returns are likely to return to more normal levels. A study by John Bogle indicated that decades of high perceived market risk have been followed by decades of lower perceived market risk. The bottom line is this: We are faced with the choice of losing our savings to the threat of inflation and investment expenses or exposing ourselves to market risk. You can’t earn higher returns (and avoid inflation) unless you take greater market risk – that means investing some of your money in risky assets such as stocks during times when no one else seems to want them!!!!!!!!!!!!!! Twisted Logic ??? You can be sure that most investors were not anticipating lower returns of roughly 6% at the market peak in 1998 when the dividend yield on stocks was roughly 1% (5% dividend growth rate + 1.1% yield). Most investors were caught up in the stock market bubble and thinking that future returns would likely to be in the recently historical range of +15%!!!!! Human Nature and Investment History I am sure that virtually everyone is aware of the recent market bubbles Internet/Growth Stock bubble Oil Bubble Housing / Leveraged Mortgage backed Securities Bubble In fact we have had a long history of Market Bubbles followed by major declines. Tulip bubble in the 1600’s 1929 bubble followed by great depression Nifty 50 Japanese stock Market Bubble Bubbles and serious declines in markets are a fact of life that are caused by our Human Nature that need to be anticipated and planned for. Key Human Characteristics that don’t make us Perfect Investors We are very social Creatures and feel comfortable being conventional and doing the same things that our friends are doing, enjoy following fads, like discussing common interests with our friends and we enjoy being entertained, gambling and other forms of excitement. We enjoy finding patterns in our environment that might help us solve problems and predict the future and we consider the most recent information more relevant than older information even if the older information is more complete. Key Human Characteristics that don’t make us Perfect Investors This causes us to see trends in short term performance in asset groups that cause us to favor and buy asset groups that have recently done well over groups that have not recently done as well. We generally are overconfident of our abilities compared to everybody else and think we have special abilities that will allow us to find methods that will beat the market indexes. It is very difficult for some folks to sit by and do nothing while their buddies/ neighbors/competitors have all the fun getting rich in the “Dot Com/Growth Stock/Housing / Leveraged SubPrime Mortgage backed Securities” Boom Key Human Characteristics that don’t make us Perfect Investors All of these characteristics cause us to regularly force the price of popular investments up to a point that future positive returns are diminished or eliminated especially when there is a source of cheap money (IE lower Interest rates by the Fed) Ways to deal with the Herd Mentality and the tendency to focus on short term performance. Returns for Major Asset Classes for the last 28 years #1 25 20 The best performing asset class over the last 10 years is likely to be the worst performing class over the next 10 years #1 #4 15 #1 #1 #4 10 5 #4 0 -5 1970 to 79 S&P 500 1980 to 89 EAFE Small Stocks 1990 to 99 Reits Inflation 2000 to 08 Int term Bonds Ways to deal with the Herd Mentality and the tendency to focus on short term performance. Recognize that when asset classes are popular and been performing well over the past 5 to 10 years they are likely to be over priced simply because to many people have invested in them. Ways to deal with the Herd Mentality and the tendency to focus on short term performance. "Be fearful when others are greedy and greedy when others are fearful." --Warren Buffet “If things seem splendid they will get worse – Success inspires overconfidence and excess.” “If things seem dismal they will get better – Crisis spawns opportunity and progress” From “The trouble with Prosperity” by James Grant Ways to deal with the Herd Mentality and the tendency to focus on short term performance. Try to identify the eras conventional wisdom and best performing asset class and assume the conventional wisdom is wrong and the best performing asset class is not likely to be the best performer over the next 10 years. In fact the best performing asset class is more than likely to be the worst performing over the next 10 years. Try to determine the conventional Wisdom and assume it is wrong Conventional Wisdom of the 1990s US stocks have superior returns over Bonds and Foreign Stocks and are not really risky assets when held over long time frames Conventional Wisdom today ?????? Try to determine the conventional Wisdom and assume it is wrong Conventional Wisdom today US and Foreign stocks are very risky indeed and Government Bonds or Cash is the place to be to ride out this storm. Projected long term returns from “The Four Pillars of Investing” Asset Class US stocks Foreign Stocks Reits Current Yield 3.1 5.1 9.4 Long term return (at least 10 years) 8.1 Assumption Assume 5% Dividend Growth 10.1 Assume 5% Dividend Growth 12.4 Assume 3% Dividend Growth Junk Bonds 10 6.5 Intermediate term T bill 3.8 3.8 Total Bond index 4.9 4.9 Assume 3 to 4% Default rate Asset Allocation Asset allocation is the art of mixing asset groups that are not well correlated over time in order to reduce risk and improve returns Defining your mix of asset classes should be the major focus of your investment strategy since it and investment expenses are the only two variables that an investor has control of that impact risk and returns. Major Asset Groups Yearly Return 1972 thru Oct 2008 Risk (Yearly stdev) Correlation to S&P500 short term t bill 6.7 2.9 -0.1 Intermediate term gov bonds 8.4 6.0 0.20 Inflation Indexed Bonds ** 6.2 6.8 0 S&P 500 11.3 18.4 1.00 International Stock index 12.0 23.5 0.65 Small Cap stocks 12.9 20.9 0.85 Reits *** 13.1 18.6 0.55 Using Historical returns you can evaluate the impact of mixing incremental amounts of different asset classes to evaluate their impact on past returns. Mixes of Foreign and Large Cap US 1972 Through 2007 13.8 Annualizd return 13.6 13.4 Over long term time frames Portfolios with 10 to 40% Foreign stocks have reduced risk and inproved returns 100 % Foreign 13.2 Initial steps are in increments of 10 ie (90%US 10% F thru 60% US 40% Foreign) 13.0 12.8 12.6 100 % US 12.4 15.0 16.0 17.0 18.0 19.0 20.0 Risk Yearly Standard Deviation 21.0 22.0 23.0 Impact of International Stocks The amount of international stocks (or any risky asset class) in your portfolio in highly dependent on your tolerance for risk, your comfort level with this asset class, as well as having performance levels that are different than most portfolios built around the S&P500. I use 25% International Stocks in my Model Portfolio -- my take is that International Stocks should comprise 10% to 40% of your Stock portion Reits added to Mix of US & Foreign Stocks Reits added to Core mix of Equities 100% Reits 14.4 Annualized Return 14.2 14 If Reits look to good to be true you are correct. They have been the best performing asset for the last 10 years and should be accumulated gradually 13.8 13.6 13.4 100% mix of US and Foreign Stocks 13.2 13 14.5 15 15.5 16 16.5 Risk (Standard Deviation) 17 17.5 Impact of Reits on a Portfolio Reit’s are excellent diversifiers but I recommend accumulating them gradually over the next 3 years or so since they have been the best performing asset class for the last 10 years. (More on this later) Be aware that including them will reduce risk but also cause your portfolio to underperform at times a standard mix of Large Cap US stocks and Bonds. Credible books on asset allocation recommend including Reits in a range of 5% to 20% of your total assets when they are discussed. They are 12% of my model portfolio Comparison of Diversified and conventional Portfolio S&P 500 11.3 18.4 1.00 International Stock index 12.0 23.5 0.65 Small Cap stocks 12.9 20.9 0.85 Reits 13.1 18.6 0.55 Av Return Risk( Yearly stdev) Growth of $10M since 1972 Port Return (Well diversified portfolio) 10.3 10.6 $ 319,000 Port Return -S&P /Bonds/ Cash 9.9 11.5 $ 271,000 Port Return S&P/Bonds/Cash with 1% charge for active Mgt 8.9 11.5 $ 193,000 Comments on Diversification and expenses Note that the addition of risky assets (International, Reits, etc. increased returns and reduced risk even though all of them were riskier than the S&P 500) Note that reducing your expenses increases return while maintaining the same risk level Review of the last 4 decades of Conventional vs Diversified Portfolio Annualized Returns over each decade Model Portfolio Conventional Portfolio Inflation 1970 to 79 8.4 6.6 1980 to 89 16.1 1990 to 99 2000 to 08 Growth of $100,000 over each decade Model Portfolio Conventional Portfolio 7 $ 180,584 $ 157,527 15.4 5 $ 365,844 $ 336,885 11.7 14.5 3 $ 305,621 $ 370,260 4.2 1.8 4 $ 132,447 $ 112,080 Our Model Portfolio beat both Inflation and the Conventional Portfolio 3 out of 4 decades However during the US bull Market of the 90s a conventional Portfolio outperformed our model so if you are prone to peer pressure and wouldn’t want to be underperforming your buddies you probably should stay with a conventional mix. Examples of Portfolios with Moderate Risk Ticker symbol Expen se ratio % Rank over last Ten Years % Return over last Ten Years Vanguard LifeStrategy Moderate growth VSMGX 0.23 70% Vanguard Wellington VMELX 0.3 NA 0 Scotts Model Port % cash % US Large & Small Stocks % Foreign Stocks 2.9% 6 55 10 ** 29 91% 4.6% 2 52 12 ? 34 90% 4.8% 10 33 15 12 30 **Market Weight of Reits in US stock portion * % of all surviving funds that this fund outperformed in its category over 10 year time frames % Reits % Bonds Defining an optimum mix of assets The most important task to do is to decide the mix of risky assets such as stocks and less risky assets such as bonds and cash. This decision is influenced by timing on when you need the assets and your tolerance for sustaining the pain of market declines. There is an optimum bend of risky asset classes that will maximize return and minimize risk known as the “Efficient Frontier” but since no one can predict how future markets will perform that mix is beyond the grasp of mere mortals such as ourselves or any financial advisor. But that is not really a problem because any reasonable mix of the major asset classes if it is consistently maintained and regularly rebalanced is likely to outperform the vast majority of active investment managers over the long term. Defining an optimum mix of assets Asset allocation is merely a structured way to help you have a simple well diversified portfolio that you are comfortable with. No one as any idea what the next 10 to 20 years will bring so it will be best not to have all of your eggs in one or two baskets. Let’s have them in 3 to 5. Potential Real Life Portfolios Ticker symbol Expense ratio % Rank over last Ten Years % Return over last Ten Years % cash % US Large & Small Stocks % Foreign Stocks % Reits % Bonds Vanguard LifeStrategy conservative growth VSCGX 0.24 80% 3.3% 8 40 5 ** 47 Vanguard LifeStrategy growth VASGX 0.23 76% 3.1% 6 70 14 ** 10 Vanguard LifeStrategy Moderate growth VSMGX 0.23 70% 2.9% 6 55 10 ** 29 Vanguard Wellington VMELX 0.3 91% 4.6% 2 52 12 ? 34 NA 0 +90% 4.8% 10 33 15 12 30 Scotts Model Port Or you can build your own portfolio from the individual Indexes below Ticker symbol Expense ratio % Rank over last Ten Years % of Mix to Follow Model Portfolio Vanguard Total Stock Index VTSMX 0.15 65% 33% Vanguard Total Intl Index VGTSX 0.27 72% 15% Vanguard REIT Index VGSIX 0.2 55% 12% Vanguard Short-Term Investment Grade Bond VFSTX 0.21 73% 10% Vanguard Total Bond Index VBMFX 0.19 94% 25% Vanguard Inflation Index Bonds VIPSX 0.2 90% 5% The Business of Investing There are serious conflicts of interest in the vast majority of brokers, investment advisors, mutual funds, and the financial press that can pose a threat to you maximizing your returns. It is very difficult to beat the broad market indexes and even more difficult to predict who will beat the market in the future so you are better off to investing in index mutual funds such as Vanguards Total Market index and strive to minimize your investment expenses and taxes. You or anyone else can’t predict or control what the market does. What you can do is participate in a broad array of asset classes while minimizing costs and tax impacts. The Business of Investing If you do elect to try to actively manage your account consider active allocation methods described in “The Four Pillars”. This is technique where you overweight asset classes that have recently had significant declines. If you must invest in actively managed funds (Lack of Index options in 401K) try to keep expense ratios below 0.5%, look for long term consistent performance that does beat the indexes, are not well correlated with the rest of its peers (Low R sq), use Morningstar to evaluate the funds performance (with a good dose of common sense), and use a core of index funds if you can. Next Steps Evaluate your current situation in regard to your investment goals (Just exactly what do you want your money to accomplish for you), your current status in regard to accomplishing those goals, and your knowledge and experience of investing and investment history. Evaluate your current mix of assets. This can easily done with a Morningstar tool called Portfolio analysis available at http://portfolio.morningstar.com/NewPort/Free/InstantXRayDEntry. aspx?dt=0.7055475 Start to educate your self on investing Principles and Investment History with the list of Books listed below starting with “The Four Pillars”. Don’t try to hurry through this process it will probably take a several months to properly absorb the material. Next Steps When you have decided that you are interested in becoming more diversified (and probably simplify your investments) write down what your target allocation is in each asset group along with a plan to gradually move to that allocation over the next couple of years being careful of the tax implications of your decisions. Be particularly careful of quickly eliminating the “Dogs” in your portfolio with something that has recently done well. These easily could be asset classes that are currently out of favor. Let me know if you have questions or are interested in getting additional help from me. I am interested in assisting a limited number of folks in getting started with this process. Scott Larsen [email protected] 336-760-2877 Suggested Reading The Four Pillars of Investing If you read nothing else read this. Available at Amazon.com used books for around $17 Devil Take the Hindmost: A History of Financial Speculation Public Library or Amazon.com used books Random Walk Down Wall Street Public Library or Amazon.com used books