It’s been a wet n windy weekend here ‘up north’ which has provided an opportunity to catch up with some reading. This book has been on my list for a while and I recently managed to get hold of a copy from my local library.
The central theme of this book is to persuade the reader - the rational investor - that they are more than likely someone who does not possess an edge or advantage that will help them to outperform the financial markets. Lars argues that unless we know something that nobody else knows we do not have an advantage over the market.
The lack of such an advantage however does not mean people should avoid investing as this would mean missing out on potentially exciting long term returns from the equity markets. Embracing and understanding this absence of an edge is the key to building the rational portfolio.
At its most basic, the rational portfolio consists of some low risk investments comprising highly rated government bonds such as those from UK, USA and Germany combined with global equities. For those who want a little more risk and complexity there is the option of adding some other global bonds and corporate bonds. These should be held via low cost index funds or ETFs in a tax efficient way.
The precise mix will be determined by the individuals appetite for risk, time horizon etc. The author provides a risk range A to F where A represents very low risk gilts and F represents high risk global equities. Medium risk would be a mix - for example C (lower medium risk) - 33% low risk gilts, 50% equities, 7% other govt. bonds and 10% corp. bonds ; or D (higher medium risk) - 75% equities, 10% other govt. bonds and 15% corp. bonds.
Make adjustments to the mix over time or as the world around changes.
Take account of other assets you have such as house, business, inheritance etc. Think about these broader assets and how they may fit with your investment strategy. If investments for example represent only 10% of assets and the 90% is highly correlated and dependent upon the same factors, then diversification of just the investment portfolio could lead to a false sense of security.
Other Asset Classes
The suggested allocation of global equities combined with bonds obviously leaves out other popular asset classes such as property, commodities and private equity. The basic advice is to avoid such areas unless you have some sort of advantage or edge. Some can be expensive for fees, others can be very illiquid, you may already have some exposure via your equities or corporate bonds.
The author is a former hedge fund manager (or should that be edge fund!) and states quite categorically that venture capital and hedge funds do not belong in the rational portfolio. Personally I have never held a hedge fund as I do not understand how they operate and also they are relatively expensive. I am quite happy to accept the authors recommendation in this area. As for leaving out some exposure to commercial property…I’m not so convinced.
The final third of the book looks at very practical concerns for the average private investor - building a long term plan which takes account of goals, risk profile, other assets etc. It covers various stages of life - early starters, mid life savers and retirement and how to look at matching risk and asset allocation through the various stages.
Some ‘rules of thumb’ to consider:
- Hold you age in bonds
- Don’t withdraw more than 4% of the portfolio in retirement
- If you react badly to portfolio losses, reduce the equity exposure by 10% - keep doing this until you feel comfortable
To sum up - abandon thinking you can beat the market, evaluate your time horizon and attitude to market risk then purchase a global index tracker and a UK gilts fund, invest tax efficiently via ISA or SIPP, rebalance periodically - simples! In a nutshell, that’s just about it - simple, cheap and easy to implement.
(How about the all-in-one Vanguard LifeStrategy fund - even simpler!)
Personally, I would have liked the book to be a little more concise. The basics in the book could probably be conveyed on a couple of sides of A4 but, as usual, these type of books seem to go on a little (this one covering a total of 228 pages). I guess the authors/publishers think the readers will expect a certain length of book to justify the price..... which is probably true.
To be fair, there are potted summaries at the end of most chapters.
I have been nudged along the path towards index investing over the past year or so and several articles by the author on the Monevator blog has been influential in this. The fact that many of the central themes of the book have been covered before may be the reason I felt a tad disappointed when I came to read the actual book.
However, for those who may not have read these articles previously, the book is well worth getting hold of and it certainly confirms many of the basic points suggested by Tim Hale in ‘Smarter Investing’(recent review).
I understand the author has recently started work on a second edition of the book. For those that have read the first edition and want to provide feedback they can email - firstname.lastname@example.org if you are OK with the publisher sending a short survey.
As ever, all comments you may have on the book are welcome.