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Asset Class Investing for Today, and Beyond
Staff Reporters
In 1997, The Prudent Investor’s Guide to Beating the Market was released by John Bowen Jr., and published by Irwin Professional Publishing. Since then, it has become somewhat of a classic. And so, the time may be right to review the basic concepts it exposes during the current climate of marketplace turmoil, volatility and the impending recessionary financial ecosystem.
Basic Concepts
In the book, Bowen describes the concepts necessary to develop a sound portfolio of asset class investing. These include:
• Utilize diversification effectively to reduce risk—While diversification is generally good; realize that bad diversification also exists. If your investments move together (or in tandem), this is ineffective diversification.
• Dissimilar price-movement diversification enhances returns—The most important component of investing is understanding correlation coefficients (dissimilar price movements). By combining assets with low correlations, the physician investor can lower the overall portfolio risk while enhancing risk-adjusted rates of return. If two portfolios have the same average return, the one with the lower volatility will have the greater compound rate of return over time.
• Utilize institutional asset class mutual funds—This belief stems from markets being efficient. Therefore, the best way to add value to mutual funds is to diversify into asset class mutual funds so you can achieve dissimilar price movements that will allow you to diversify effectively.
• Diversify globally—If you have all your money in a single country, you will not achieve diversification because those investments, on average, tend to move together.
• Design portfolios that are efficient—Your portfolio should be designed to provide you with the highest rate of return for the level of risk with which you are comfortable.
Stay the Course
Bowen believes the secret to asset class investing is having the discipline to stay-on-track. He further states that the investor must stay the course and avoid market timing, because it simply does not work. He tells his readers that only through a patient, long-term perspective will they realize their financial goals. He states that more than 90% of the market gain recorded each year has been concentrated in a single 30-day period.
Risk Management
To determine how much risk any physician-investor is willing to take, Bowen suggests looking at the 1973–1974 domestic stock market performance. These two years experienced the worst financial recession since World War II. In selecting the risk tolerance that’s appropriate, physicians and other investors should consider their optimal portfolio at its average risk level. Bowen believes that just because Wall Street doesn’t acknowledge the existence of those years, doesn’t mean you shouldn’t.
Assessment
He also states that you should only be in the equity market if your time horizon exceeds five years. This way, you’ll be able to weather the business cycles with peace of mind.
For any portfolio less than five years, Bowen states that it should be predominantly made up of fixed income securities. He also states that most portfolios should consist of a money market account, a one-year corporate bond, a five-year government fund, a US large company fund, a U.S. small company fund, an international large company fund, and an international small company asset class mutual fund.
Conclusion
The original book is written in a clear and concise format. It gives a history of the market and shows the reader what works, what doesn’t, and explains why. The book should again be a prerequisite reading for physician-investors and financial advisors; especially today.
Any thoughts, opinions and comments are appreciated.
Related Information Sources:
Practice Management: http://www.springerpub.com/prod.aspx?prod_id=23759
Physician Financial Planning: http://www.jbpub.com/catalog/0763745790
Medical Risk Management: http://www.jbpub.com/catalog/9780763733421
Healthcare Organizations: www.HealthcareFinancials.com
Health Administration Terms: www.HealthDictionarySeries.com
Physician Advisors: www.CertifiedMedicalPlanner.com
Speaker: If you need a moderator or speaker for an upcoming event, Dr. David E. Marcinko; MBA – Publisher-in-Chief of the Executive-Post – is available for seminar or speaking engagements. Contact: MarcinkoAdvisors@msn.com or Bio: www.stpub.com/pubs/authors/MARCINKO.htm
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Filed under: Book Reviews, Investing, Portfolio Management | Tagged: asset classes |
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A Long Term Portfolio of Stocks?
Stocks for the long term may not be the best choice, according to a new study by University of Chicago Booth School of Business Professor Lubos Pastor and Wharton School Professor Robert F. Stambaugh, titled “Are Stocks Really Less Volatile In The Long Run?”
According to Financial Advisor Magazine, their research on stock returns found that equities are actually more volatile over 30-year periods than conventional wisdom teaches, because the principle of uncertainty hasn’t been given enough weight by financial advisors [FAs].
The study, which will be submitted to academic finance journals for publication, challenges the popular belief that long-term equity investments are less volatile than short-term investments because the longer time period gives room to recover losses. The report suggests that investors—especially those expecting to stay in the market for long periods of time—will want to reconsider the risk in large equity investments.
Traditionally, researchers have focused on the concept of mean reversion, or the idea that over time, bear and bull markets cancel each other out and gains are achieved through economic growth. That conclusion was reached after looking at historical stock returns, as was done famously by Wharton Professor Jeremy J. Siegel, who scrutinized stock returns going back to 1802.
While mean reversion is still respected, it is more than offset by the other components, especially uncertainty. The new study may be among the first to compare the effects of mean reversion with uncertainty. In addition, the trouble with many empirical studies is that they give a historical account for stock returns but don’t provide much for an investor looking forward.
For example, stocks have never underperformed bonds over any 30-year period since late 19th century, but there have been very few 30-year periods since then, so there is a lot of uncertainty about historical estimates of 30-year volatility.
Salesmen, academics and FAs, your thoughts are appreciated?
Sent in by Jeffrey
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