The following letter is in response to Dougal Williams’ article, A Crash Course in Investing: Six Lessons from the Market Meltdown, which appeared last week:
Dear Editor,
I was thoroughly entertained by Dougal Williams’ article, as he moved from Lesson #1 through Lesson #5 to make his point in Lesson #6.
However, when he made his assault against the “average A, B or C Allocation Fund” based upon a comparison of the total returns of those funds in 2008, he compared these funds to only three selected mixes of two indices (which do not have management, trading costs or advisor fees). His argument faltered on three grounds, as I note below. (In this context, substitute Aggressive, Balanced or Conservative for A, B or C.)
First, he owes his readers the results of how his comparison would have held up had he matched the performance of the his selected funds against the total returns of matching mixes of index funds or ETFs that are appropriate long-term surrogates for the two indices. That way, he would appropriately consider management fees and trading costs dictated by fund flows and index adjustments.
Second, as an advisor who advocates that a “basic buy and hold strategy gives the best chance for long-term success,” the fair comparisons would involve presentation of results over a suitable long-term period (say the preceding five or 10 years). A comparison of results for one very unusual year is not a valid test of any long-term investment strategy. I would be curious to see a comparison of three A, B or C portfolios of his preferred index fund surrogates compares to the total returns of corresponding sets of type A, B or C Allocation Funds over a five- or 10-year period.
Third, any comparison between a purported superior strategy and the “average fund” in a particular category is an unfair comparison for this purpose because (by definition) the category average includes a large population of underperforming funds. A more appropriate test of his thesis would be a comparison similar to that in the paragraph above with a representative set of those A, B, and C Allocation Funds that have turned up regularly as popular choices in the Advisor Perspectives quarterly surveys of its investment advisor universe. That would tend to show if a mix of two suitable index funds (that he may now choose with hindsight) is really superior to corresponding Allocation Funds chosen during recent years by other investment advisors who have been laboring in the trenches making choices without the benefit of hindsight. His argument would be even more compelling if he could show that the two funds that he chose for his benchmark surrogates had predominated in the portfolios that he had constructed for his clients over the corresponding long-term periods.
For the record, I agree with Williams’ premise about the long-term prospects for a basic buy–and-hold strategy, provided that the strategy is prudently managed. However, regardless of “how many or how big the baskets” the investor chooses for his “nest eggs,” prudent investing requires that the investor watch those baskets and take appropriate action when the contents appear threatened.
By way of background, I have been studiously investing in mutual funds (for my own account) for over 30 years, reading of as much relevant investment literature and commentary for the last 10 years as time permitted, and conducting a public CPA practice for over 50 years. For several years I was an active participant in an investment club which made money investing in common stocks. The club ended when I and my colleagues came to recognize that by investing in common stocks in that way we could not make enough money to justify the time it took to analyze the stocks under review in the detail necessary to make prudent choices.
Jerome Porter, CPA
