Jim Reber received a Ph.D. in Mathematics from Duke University in 1971 and recently retired as a professor of Mathematics from Indiana University of Pennsylvania.
In college he was lucky enough to get a part time job reading The Wall Street Journal, Barron's and investment reports to a blind businessman. As a break from studying Mathematics in graduate school, he spent his lunch hour at the Duke University Library, studying Investment Companies, then produced annually by Arthur Wiesenberger and Co. He bought his first mutual funds in 1969 and invested through the rough markets of the 70's. Over the years he has owned many mutual funds and read many of the books and newsletters about mutual funds. More significantly he has made numerous mistakes, which he would like to pass on as lessons to other investors.
You may write him at [email protected].
1. 50-50 split: Where it leads and what it means
2. The Joy of Compounding
3. Why I Didn't Buy Internet Funds in the 90's
4. On Buying Mutual Funds
5. On Selling Mutual Funds
6. On Strategic Asset Allocation
7. On Tactical Asset Allocation
8. Maximizers, Satisficers, and Investment Thinking
9. Books for Mutual Fund Investors
10. Periodicals for Mutual Fund Investors
11. Lotteries, Lawsuits, and the Investment Future
12. Performance and Data Entry
13. Changing Patterns of Asset Allocation
14. Changes in Mutual Fund Investing
15. Bonds, Deficits and Inflation
16. Taxes and Retirement
When I chose the TIAA-CREF retirement program in 1975, I had two choices: the CREF stock account and the TIAA guaranteed annuity (fixed) account. I could specify any percentage division on how contributions would be invested. I made what was considered a moderate choice: 50% stock and 50% fixed. This might seem like a very conservative choice now, but remember the Standard and Poor 500 had lost 27% of its value in 1969-1970 and 43% of its value in the bear market of 1973-1974. The conventional advice was: do not take too much risk with your retirement funds (even though they are very long term). And remember, the advice to put all your long-term funds in the stock market is usually heard only towards the end of a long bull market.
Of course, the 50% - 50% split between stock and fixed had an additional advantage for an inexperienced investor in the time before cheap computing power. At the end of each quarter I could look at my total results to easily compare whether the stock account or fixed account was performing better.
So let us look at this situation: all contributions are divided equally between a stock account and fixed account. No rebalancing.
At the end of each year, I indicate the percentage of the total account in stock. Obviously 50% indicates the two accounts are performing equally and a percentage above 50% indicates the stock account is out-performing.
| 1975 | 50.4% |
| 1976 | 52.2% |
| 1977 | 49.0% |
| 1978 | 49.6% |
| 1979 | 51.2% |
| 1980 | 54.6% |
| 1981 | 50.8% |
So after 7 years, the fixed account and stock account results were similar. But the great bull market 1982-1999 is set to begin.
| 1982 | 53.1% |
| 1983 | 55.5% |
| 1984 | 53.7% |
| 1985 | 57.8% |
| 1986 | 59.6% |
| 1987 | 57.7% |
Notice the short sharp 30% drop in the S and P 500 in 1987 just barely shows up, since I list the percentage at the end of the year.
| 1988 | 58.8% |
| 1989 | 61.8% |
| 1990 | 57.8% |
Notice the 15% drop in the S and P 500 in 1990 is only a minor break in the trend.
| 1991 | 61.6% |
Remember all contributions were divided equally between the stock and fixed account. By now even the most inexperienced and oblivious investor can see that the stock market out-performance is significant and persistent. At this point, with new options such as a balanced account available, I changed my allocation and began to adjust my allocation and rebalance more actively. But let us follow the 50% - 50% split in contributions to see where it leads. From here on, we look at a simulation, which uses my contributions invested quarterly (half in the stock fund and half in the fixed account).
| 1992 | 60.8% |
| 1993 | 61.7% |
| 1994 | 59.6% |
| 1995 | 63.9% |
| 1996 | 66.0% |
| 1997 | 69.1% |
| 1998 | 71.6% |
| 1999 | 73.7% |
The great bull market finally ends. The stock percentage high of 73.9% occurs 3/31/2000. And in case you are curious, the total value of the simulation is quite close to but less than my actual managed account at this point in time. Now the bear market takes its toll.
| 2000 | 70.2% |
| 2001 | 65.1% |
| 2002 | 57.8% |
The percentage low of 56.4% occurs on 9/30/02 and on 3/31/03. Notice this returns the relation between the stock and fixed account back to that almost 20 years earlier. Since this account, though conservative at the beginning, had grown rather aggressive with nearly 74% in stocks, it is not a surprise my actual account with rebalancing showed its worth during this period.
Finally, some recovery occurs.
| 2003 | 62.9% |
With nearly 30 years of data in front of us, let us draw some lessons.
If you want a specific "strategic asset allocation", you obviously must rebalance your portfolio. But determining the appropriate allocation is no easier now than it was in 1975. Investors are always searching for what is called the "efficient frontier", that allocation which has the best growth potential and the least risk. But that search depends on looking backwards and the future can always hold surprises.
Once you decide to rebalance your portfolio, you must decide how often. Rebalancing once a year, mechanically, is a common choice. However, rebalancing less at the beginning of a bull market and more often near the end of a bull market would be ideal. This is a path to "tactical asset allocation".
An important and obvious lesson, which is not often emphasized, is that the better performing assets will gain percentage share. This is, of course, the reason to rebalance. But in the above example, many would suggest 60-70% in stock is a better choice than 50% in stock, and this is what resulted from a 50 - 50 % split without rebalancing. An interesting question: do un-rebalanced portfolios converge to or oscillate about the efficient frontier? Also, as this example indicates, attention to rebalancing can reduce both risk and growth in a bull market, but will pay dividends in bear markets.
Compounding of interest and growth over time is the key to success. In this simulation, in the final value of the fixed account, for every $1 contributed there was $1.83 in interest. In the stock account, for every $1 contributed there was $3.79 from growth.
These comments suggest some of the ideas I will explore in future "lessons".
Email comments or questions to me.