The We Study Billionaires podcast interviews interesting people from the world of finance and on the 14th April 2022 episode, they interviewed Nick Maggiulli, COO and data scientist at Ritholtz Wealth Management. Nick came on the show to talk about his new book Just Keep Buying. He brought up a number of interesting points on asset allocation and personal finance which I will note down below.
Here are the interesting parts, in my view (this is not a summary of the whole interview):
1) If you have a lump sum of money, should you invest all of it in the market, or dollar cost average it out?
Nick thinks putting all of it to work in the market is the way to go. Addressing the common worry about market downturns and buying the dip, if the investor worries about volatility, this is more likely a risk issue, and the investor should consider de-risking a little.
It is important to note here that he makes a distinction between "averaging in" and "dollar cost averaging". Averaging in refers to breaking up the lump sum into small sizes to invest over time, whereas dollar cost averaging is the practice of investing a portion of your income as your salary comes in.
2) On "buy the dip"
He used the example of 2017, when there were worries about market valuations being "too high" and markets were "going to crash". Fast forward to March 2020, during the Covid low point, it was 33% down. However, this low point is still 7% higher than the levels in 2017. Investors who stayed out of the markets in 2017 and waited on the sidelines would have missed out on the gains during this period.
His point is that even if the market dips, it could drop to a level that is still higher than at the beginning of the period. Another risk is that by staying on the sidelines, there is no guarantee that investors will overcome their fear and buy when the dip actually happens. As the market edges up over time, investors can miss out on the big gains.
3) On the argument against investing all at once, in case of a "Japan situation"
He admits that this will be a very unlucky situation which can be managed by diversification. Also, if you used dollar cost average in the Japan example, you will not have great returns, but you may not have lost money.
4) Should you pick stocks
He breaks this into 2 parts.
The first part is the performance argument. Active managers find it hard to beat the index. Using this argument, you shouldn't pick stocks.
The second argument is the "existential argument". How do you know you are good at stock picking? He concedes that there are people who do have stock picking skills who can beat the market, probably about 10%. These will be the people who know they have true skill. Assuming there is a bottom 10% who are bad at stock picking (and they know it), there is a middle 80% who may not know for sure if they are able to beat the market.
The problem with stock picking is that it is hard to know if you have skill, compared to a basketball player. It is immediately clear if a person is good at basketball or not. For stock picking, you need a long period of time, 5 to 10 years, to know if you have skill.
So the question is, do you want to do that for 5 to 10 years to know if you are good? This question is valid for those who view investing as a "job" (my words). If you enjoy the game, then you probably won't mind the time and effort picking stocks.
5) Should you still invest in bonds
With rising inflation, bond returns are expected to suffer, especially since bond yields are low and inflation is high (note: inflation usually causes bond yields to rise and hence bond prices will fall). However, the reasons why bonds are used in a traditional 60/40 portfolio is to manage risk. In a market downturn, bonds will hold its value better than stocks.
A person who is young and maximizing returns may choose to allocate more to stocks, such as 70% stock and 30% bonds, but that person will be taking on more stock risk. It is a tough choice.
Side note, you can refer to my post on the 60/40 allocation here
6) How often should you rebalance
He cites a William Bernstein study that frequency of rebalancing doesn't really affect return. So you can do it once a year, twice, quarterly, whatever. He does it once a year for tax season.
He suggests using a method called "accumulation rebalancing". Instead of selling down the overweight asset to buy the underweight, if you are investing a portion of your salary, use that income to buy the asset that is underweight. For example, if your target is 60% stock and 40% bonds and the weight is now 70% stock and 30% bond, use your monthly salary to buy more bonds to even it out.
He also points out this won't work forever. As your portfolio grows, your monthly income will have less impact on the weightage. Imagine if you have 700,000 in stocks and 300,000 in bonds. Adding 1,000 from your salary will not materially shift your weightage towards a 40% allocation in bonds. You will have to sell/buy to rebalance eventually.
7) Inflation
Equities tend to do well in times of inflation as costs can be passed on to customers. Also, real estate do well, as prices of assets rise and debt is depreciated.
8) When you should sell
He brings up 3 scenarios when you might want to sell
First is when you are rebalancing. If one of your assets becomes too heavy, you need to sell to bring it back into balance to manage the risk.
Second is when you have a concentrated position. He uses the example of working in a company and accumulating stock options. You might want to sell after you leave, to de-risk.
Third is to fund your lifestyle. I think this is a timely reminder that you are saving/investing for a purpose and if you need to fund a wedding, new house or whatever, you need to sell.
9) Concentrated positions
On the idea of concentrating your investments earlier in your life (when you can tolerate more risk), he is very frank about the limitations of diversification. He used the example of Bill Miller (famous fund manager) who supposedly has 50% in Amazon and 50% in Bitcoin. To be really rich, one has to take risks, hence concentrated positions.
However, Nick's objective is to help people achieve a decent financial life, not become a billionaire. In the case of Bill Miller, it is noteworthy that he is already a very rich man and he has proven skills, and he is probably still in the game because he loves the game. I think the point here is not to use him as a comparison since his goals and situation are very different.
10) Goals
It is part of human nature that we are never satisfied. When one is a millionaire, you will start to shift the goalposts and aim to 10 million and so on. Also, humans will compare. He used the example of Lloyd Blankfein, former Goldman Sachs CEO, who says he is not "rich" but "well to do". This is probably because his friends are all richer than him.
He points out that one trick we can use is to take stock of what you have on an absolute basis, rather than relative (compare yourself against your neighbours).
This is just an extract of the points that I find interesting, for the full transcript and other points I did not cover, check out the podcast page.
None of the above should be construed as investment advice. Do your own due diligence as I will not be responsible for any loss/risk.
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