Normalcy and Investing

A couple of days ago, I got one of the usual phone calls from a member about how to invest 401(k) money. In a nutshell, I told him that investing was simple, and all he had to do was:

1) Keep investing costs low with index funds.

2) Set a broadly-diversified asset allocation that includes foreign and domestic stocks, also bonds.

3) Determine your tolerance for risk, and allocate assets accordingly. (Investing die-hards = 60-70% stocks; investing cowards = 60-70% bonds

Simple, no? But if investing is simple, why do so many investors suck at it so bad? ...

Nine days ago, investment guru Larry Swedroe gave a talk in San Francisco that pretty much explained why. (You can see Larry's lecture and Q & A here: When Will Things Get Back to Normal?)

What Mr. Swedroe says is well worth hearing and absorbing, because he's been at the game a long time and he's good at it. Some of his bullet points:

* Nobody can predict where the economy (and stock market) is going.

* There were 32 years (1926-2010) when stock returns were above 20 percent.

* There were 23 years (almost 30 percent) when returns exceeded 25 percent.

* People end up bad investors because they try to predict where the economy (and stock market) is headed via market timing. But it can't be done.

* Only a tiny percentage of stock-fund managers out-perform the market over time. And investors can only know who those few, brilliant stock-fund managers are after the fact.

* Warren Buffett and most every other gifted stock-picker who's honest says that average investors should have their money in low-cost index funds.

When stocks are going up, most everybody kids themselves that they have "a high tolerance for risk" (i.e.; owning mostly stocks.) But when the market drops 25-50%, everybody finds out that "No, they don't." And then they scurry into bonds right at the bottom of the stock slide.

Boxer Mike Tyson once put it another way: "Every fighter, when he gets into the ring, has a plan. Then he gets hit ..." This is what makes long-term investing difficult for many folks. They think they can stick with their investment strategy (whatever it is), but the first time heavy-gloved reality punches them in the face, they panic and decide otherwise.

Mr. Swedroe discusses all these things and more, including esoteric items like bond duration and diversfication into commodities and real estate. If you've got the time, I highly recommend giving it a look-see.