Hello world,

What would be a better start than to discuss my investment strategy?

This strategy has been influenced by talking to friends and reading a variety of investment books, most notably Ben Graham’s “The intelligent investor”. This is a fantastic book about investing, and has influenced such great professionals as Warren Buffet. (At times it is repetitive, and not the easiest read. But I warmly recommend it to beginners as it beautifully covers important and essential basics!).

In short, I take a long-term, buy-and-hold strategy. I emphasize starting to invest early, living below my means, diversification, simplicity, and sticking to my investment plan “regardless” of market conditions. (I will soon dedicate an separate article about why!).

Over the long-run, I expect to achieve returns of 6-8% on the stock market and invest very little time (I am no professional investor, although finance is so much fun!).

Investment objectives and constraints

Time horizon: Fundamentally “Longterm, but…”

  • Not indefinitely: 30 years to retirement (simple assumption for now!), 60 years to expected end of life
  • This asset allocation and investment plan is for an inexact, ~5 year horizon and may be revised then, because things can change:
    • changes in income
    • business formation
    • relocation to other jurisdiction
    • home purchase, family
    • external changes, e.g., drastic tax code changes
    • availability of new financial instruments, e.g. great new types of Vanguard ETFs
  • Sequence-of-returns risk therefore matters, unlimited volatility is undesirable

Risk preference

  • I am young (28 years) and my time horizon is fairly long. Thus, I somewhat accept the historical volatilities of the total stock market for now (up to 10-20 year stretches of negative returns!)
  • However, the older I become, the more I will need to emphasize limited volatility in my future asset allocation
  • Also, the psychological burden of decades of underperformance will be increasingly challenging (who wants to see his/her money lose its value month after month for years?)
  • Also must hedge against non-market personal financial exposure: I want to hedge my personal and professional commitment to Switzerland by overweighting US markets

Performance targets and criteria

  • Manageable complexity
  • Average annual real returns 1972-present at least 6-8% (vs. 7.5% for total stock market)
  • Longest drawdown < 10 yrs (vs. 13 yrs for US total stock mkt)
  • Finally, both to limit complexity and for professional reasons, no active investing and no individual stocks at this time
    • Instead, I will rely on ETFs

      What are ETFs? ETFs are “indexed funds”, collections of stocks that mimic large indices such as the S&P500. Easily put, by owning an ETF you own a portion of ALL stocks of that index. This means you avoid the complexity and costs associated to buying and keeping track of all these stocks. E.g., by buying an ETF indexing the S&P500, which contains the largest 500 US companies, you are essentially buying these 500 companies at once. ETFs not only reduce complexity and effort to achieve excellent levels of diversification, they are also typically passively managed, and thus extremely low-cost and efficient.

Asset allocation, fund selection, and fund placement

Basic allocation

  • 80% equities for gains
  • 20% cash & equivalents for liquidity / rebalancing on market dips / opportunistic investment (e.g., home purchase)

Cash and fixed income investment

  • In current environment, bonds are unattractive
    • short-term bonds have yields ~ savings account
    • long-term bonds lock me into longterm low yields
    • bond funds will lose value if rates rise

Equity allocation

  • Intellectual starting point: “Own the market”. Approximate as VT ETF / Total World.
    • Note: US companies are overrepresented (55% of VT, vs. 16% US share of world GDP) – yes, many sell internationally, but so do Chinese- or EU-based companies; it’s still an overweight due to the fact that Saudi Aramco, much of China, etc. is simply not publicly traded
    • However, I do wish to overweight the US given my exposure to the European continent at the moment
  • Overweight certain asset classes that provide a hedge against personal dependencies:
    • Overweight medium-small companies given my work as a consultant for large companies
    • Pivot away from Europe (I live and work in Switzerland, which is highly exposed to the EU. I wish to increase exposure to the rest of the world for diversification. Additionally, Europe bears increased risk given the instability of the Euro, market distortion through the ECB and levels of regulation)
  • Can overweight individually volatile but collectively diversified asset classes with expected returns > S&P500:
    • Overweight emerging markets, in a secular bet on the Great Rebalancing
    • Overweight small-cap value stocks, for higher returns at the price of higher volatility and lower liquidity
  • There are good reasons to limit the extent of diversification / tilting:
    • Having multiple assets invites bad psychology - e.g. overweighting recent overperformers, market timing, etc.
    • Need to rebalance can initially be satisfied from new savings, but ultimately may require tax-inefficient selling
    • Complexity is a time sink, and one might overlook changes within funds
    • It may simply be unnecessary: The lower volatility may not matter on long-enough time scales, and the expected returns won’t exceed VT (much)

  • Balancing these competing considerations, a final (simple) allocation to diverse asset classes using (cost effective) Vanguard ETFs:

    • 20% cash
    • 40% VT (total market, ~50-60% US, 20-30% developed ex-US)
    • 20% VBR (small-cap value, with traditionally higher returns than the S&P500)
    • 20% VWO (emerging markets)

Investing schedule:

  • Invest at the end of each month
  • Rebalance annually with bonus + spare cash; avoid selling to rebalance
  • Rebalance to target allocation

Reasonable things that I will NOT do (for now)

  • Gold
    • Could be used as another uncorrelated asset class to improve returns and volatility
    • Could be a very good insurance in today’s environment (low interest rates, high instability of the EURO zone)
    • Still seen by enough people as a form of money and safe haven to have great runs, e.g. 1970s and 2000s
    • But: not a productive asset, expected real return is zero
    • High degree of speculation makes it hard to reason about gold
  • Finer-grained allocations by geography, size, term, etc (e.g. Asian small cap value, etc)
    • Too much complexity, too much of a time sink