Good reads from around the Web.
I don’t have a fixed routine for the weekend, besides writing this post of course. But where possible I like to watch videos of Nobel prize winners musing about the markets.
And here’s – eventually, after adverts that sound like a parody – Yale economics professor Robert Shiller, interviewed by US broadcaster Consuelo Mack:
I wish Shiller was my grandfather and that I went to his house for dinner on Sundays. Somebody out there is one lucky grandson!
The world’s greatest investor, Warren Buffett, has often shared his thoughts on investing in index funds over the years.
And – perhaps surprisingly – he’s a mad fan of index tracker funds.
I say surprisingly, because Buffett has one of the best long-term records of any active manager ever.
Buffett’s superlative record of very nearly 20% annual returns a year since the 1960s has been achieved even as the money he manages has grown from its spare bedroom hedge fund beginnings into the vast $280 billion Berkshire Hathaway vehicle he runs today.
So if anyone deserves to strut about saying index investing is for idiots and active management is the way to go, it’s Buffett.
But he says the complete opposite.
In his 2014 letter to his shareholders, Warren Buffett has come out more explicitly than ever as index investing’s richest champion.
Buffett writes:
In aggregate, American business has done wonderfully over time and will continue to do so (though, most assuredly, in unpredictable fits and starts).
In the 20th century, the Dow Jones industrial index advanced from 66 to 11,497, paying a rising stream of dividends to boot. The 21st century will witness further gains, almost certain to be substantial.
The goal of the nonprofessional should not be to pick winners — neither he nor his “helpers” can do that — but should rather be to own a cross section of businesses that in aggregate are bound to do well.
A low-cost S&P 500 index fund will achieve this goal.
Buffett even reveals that the cash he is leaving his wife in his will 1 is to be invested in bonds and a Vanguard index fund:
My advice to the trustee could not be more simple: Put 10% of the cash in short-term government bonds and 90% in a very low-cost S&P 500 index fund. […]
I believe the trust’s long-term results from this policy will be superior to those attained by most investors — whether pension funds, institutions, or individuals — who employ high-fee managers.
Still think a very simple asset allocation is beneath you?
Admittedly Buffett has gone one step further in his will than I’d suggest is appropriate for most of us. He will invest all of his wife’s money in the US, and so eschew the benefits of investing overseas.
But remember that this will be a legacy for his wife, who is already in her late 60s. By investing for her entirely in America, Buffett sidesteps any worries about currency risk, which can be more of an issue when you’ve fewer years for your investing to play out.
And after several decades of urging his fellow countrymen to Buy America, it’s no surprise Buffett thinks it will do fine for a couple more decades after he’s gone.
As well as making the case for index funds, Buffett’s new letter stresses that your behaviour as an investor is just as important as how you invest.
To illustrate, he revives the late Barton Biggs’ quip about bull markets:
“A bull market is like sex. It feels best just before it ends.”
Buffett says the main danger is that the timid or beginning investor will enter the market at a time of extreme exuberance and give up when he loses money. (The unfortunate opposite of buying more heavily in bear markets).
He argues:
The antidote to that kind of mistiming is for an investor to accumulate shares over a long period and never sell when the news is bad and stocks are well off their highs.
Following those rules, the “know-nothing” investor who both diversifies and keeps his costs minimal is virtually certain to get satisfactory results.
Indeed, the unsophisticated investor who is realistic about his shortcomings is likely to obtain better long-term results than the knowledgeable professional who is blind to even a single weakness.
To back up his case that a “know-nothing” investor can do fine with buy and hold, Buffett cites a farm he acquired in the 1980s, and also an investment he made in a New York apartment block in the early ’90s.
Buffett is no farmer, and having lived in the same house since the 1950s he’s clearly not obsessed with property, either.
Yet his farm has gone up five-fold since he bought – despite him only visiting it once – and his apartment block has paid out 150% of what he put in over the years as it’s been refinanced at lower interest rates, whilst annual dividends now exceed 35% of the initial investment!
He’s yet to visit the apartment.
My two purchases were made in 1986 and 1993. What the economy, interest rates, or the stock market might do in the years immediately following — 1987 and 1994 — was of no importance to me in determining the success of those investments.
I can’t remember what the headlines or pundits were saying at the time.
Whatever the chatter, corn would keep growing in Nebraska and tenants would flock to New York.
So Buffett bought and held.
Of course, you might say Buffett’s promotion of index funds is just the ultimate in grandstanding for his own abilities as an active investor.
After all, he isn’t selling Berkshire’s assets to pump hundreds of billions into an S&P tracker fund. And he’s not suggested his shareholders swap their Berkshire stock for Vanguard index funds, either.
“Invest with me or give up!” would be a cynical summary of Buffett’s message.
Too cynical, I think. The fact is Buffett has long given great tips to anyone wondering how to invest their money, and he knows as well as anybody that the vast majority who choose to use active mangers will be disappointed.
He’s even in the middle of (almost certainly) winning a $1 million bet with a hedge fund manager, wagering index funds will beat the latter’s chosen hedge funds over ten years.
To conclude, I’ll paraphrase his famous rallying cry when the stock market crashed in 2008 and despair reigned:
Buy index funds. Buffett is.
Good reads from around the Web.
The lifetime allowance for pensions 1 will drop to £1.25m in April, but there’s still time to do something about it.
If your pension fund is already bigger than £1.25m or you expect it to end up that way – or if you’re on track for a company pension that is the equivalent of a too-large fund 2 – then you have until 5 April to claim what’s called “fixed protection 2014” from HMRC.
This gives you a higher lifetime allowance of £1.5m. To claim it, you’ll also need to stop contributing to your pension, or to tell your employer that you no longer want to accrue benefits.
Money in your pension fund that’s in excess of the limit will be taxed at 55% if taken as a lump sum, or 25% as income – and this is additional to the normal taxes you’d pay on pensions.
In the main it’s high earners on final salary pension schemes who are being told to check whether they’ll breach the limit (although these rare creatures could sell one or two of their unicorns to cover their expenses in old age, anyway).
But compound interest means high-rolling savers with their own pension funds could be hit, too.
A fund worth £250,000 today growing at 8% a year would breach the limit in 21 years, for instance, even without any more contributions.
A £500,000 pension fund growing at 5% would surpass the threshold in 18 years.
I appreciate this is likely to be a problem for only a few of you, even considering our unusually money smart readership.
Although I must admit that – optimist that I am – I did quickly check whether I would ever breach the limit! (Very unlikely, as I’ve got far more money in ISAs than pensions for various historical reasons).
More generally, the whole shebang looks like just another complication that will put people off pensions.
The lifetime limit was only introduced in 2006, and it has been all over the shop since then. Who knows where it will be in 10 years’ time?
What’s more, this ability to freeze the lifetime allowance seems designed to reward those who understand compound interest – and who bother to follow the minutia of the changing regulations – at the expense of others randomly left out in the cold.
There’s a reason we don’t write much about pension rules on Monevator. You really need to do a mass of research into your own situation to understand where you stand – even more so than usual – and the ground is shakier than the deck of a cross-channel ferry after a few too many glasses of cheap plonk.
The other reason I don’t cover pensions much is I’m still likely a couple of decades away from drawing mine. I can’t be bothered to learn about them in-depth, only for the regulations to be utterly different when I come to claim my locked-away loot.
Instead, I am simply putting away roughly half of what I put into ISAs every year into my SIPP, depending mainly on my taxes due for the year. 3
This is a clumsy way to decide where to save, but successive governments have made it this way.
No wonder people just load up on a lovely tax-free home to live in.
Good reads from around the Web.
Anyone who claims it’s easy to beat the market over multi-year periods is well worth ignoring when it comes to investing.
Especially if they have something to sell you.
For my sins I’m a wannabe Warren Buffett. I invest actively and monitor my returns carefully. I have read as much as anyone about every investing method under the sun. I totally get the appeal.
But when it comes to policing comments on Monevator, I spend most of time replying to those who claim some active strategy – market timing, ditching asset allocation, CAPE valuation, any of a dozen other regulars – is the route to easy riches.
None of it is.
Honest active investors who’ve achieved any success know just how hard – or lucky – what they’ve done has been. Warren Buffett, for instance, for all his billions is relatively modest about his abilities. And he urges everyday folk to use index funds.
Which brings me to my post of the week, from a money manager, Rob Seabright. He’s been in the investment business for 30 years but has stayed intellectually honest, judging by this article explaining just how hard successful active investing really is.
Rob writes:
To put things into perspective […] if you had picked the best stock to buy every day and put all of your money in it at the beginning of the day before selling it at the end of the day, you could have turned $1,000 into $264 billion by mid-December alone.
Therefore, if you didn’t achieve a 100 percent return for 2013 you didn’t get even 4/10-millionths of what was available for the taking. In other words, nobody is getting remotely close to what the market offers.
None of us is all that good.
Here’s some of the evidence he cites (trimmed for space):
- In 2006, the TradingMarkets/Playboy 2006 Stock Picking Contest – involving Playmates and professionals alike – was won by Playboy’s Miss May of 1998 and a higher percentage of participating Playmates bested the S&P 500′s 2006 returns than active money managers.
- As Charley Ellis has pointed out, “research on the performance of institutional portfolios shows that after risk adjustment, 24% of funds fall significantly short of their chosen market benchmark and have negative alpha, 75% of funds roughly match the market and have zero alpha, and well under 1% achieve superior results after costs — a number not statistically significantly different from zero.”
- Morgan Housel recently discovered that the companies with the most Wall Street sell ratings in January of 2013 outperformed the market for the year.
- The S&P Dow Jones Indices most recent year-end report confirms once again that actively managed funds — where managers try to beat the market by making good investment choices — tend to underperform their benchmarks.
- The latest Dalbar QAIB data shows that over the past 20 years, the average equity investor has suffered an aggregate underperformance of nearly 50 percent while the average fixed income investor has suffered an aggregate underperformance of nearly 85 percent.
- The hedge fund industry as a whole lost more money in 2008 than it had made in all of the previous 10 years. Even worse [says author Simon Lack], “if all the money that’s ever been invested in hedge funds had been put in Treasury bills instead, the results would have been twice as good.”
By all means try to beat the market if you want to. (I do, and – for now – I do.)
