'Laziest Portfolio' 2004 winner"

PAUL B. FARRELL

'Laziest Portfolio' 2004 winner
Ted Aronson scores repeat win with 15% returns

By Paul B. Farrell (http://www.marketwatch.com/news/mailto.asp?siteid=myyahoo&x=80+97+117+108+66+70+97 +114+114+101+108+108&y=Paul%20B.%20Farrell&guid=%7 BBC3B7AE7%2D713F%2D4933%2DAF20%2D7E8CE0128457%7D), CBS.MarketWatch.com Last Update: 8:45 PM ET Jan. 11, 2005

ARROYO GRANDE, Calif. (CBS.MW) --Who wins the award for the "Laziest Portfolio" of 2004? Ted Aronson, who says: "Our 'Lazy Man's portfolio' was up 15 percent. Wrap it up! I'll take it!" Two others are close seconds, but more on that later.

Ted also won the 2003 award, with returns of more than 30 percent, beating the S&P 500 by a wide margin both years, with less risk. What's his secret? No secret! Like all the other "Lazy Portfolios," Ted's uses a simple, no-nonsense, passive, well-diversified asset-allocation strategy with no trading, no tinkering and no rebalancing.

First, his background's important: Ted heads up AJO Partners based in Philadelphia. They manage about $20 billion. All institutional tax-exempt retirement funds. No retail/taxable funds like Fidelity and Vanguard. And that's why Ted's "lazy man's" portfolio got my attention several years ago.

Ted's "Lazy Portfolio" is his family's personal investment portfolio: "All of my family's retirement money is in AJO funds," says Ted. "But because the fund trades a lot, it's not suitable for taxable investments. So all our taxable money is in Vanguard's no-load index funds." Good advice from one of America's most successful money managers.

Ted is one of the rarest of America's 70,000 money managers. Why? Because he's one of the few that discloses his own portfolio assets and allocations. The 99.9 percent of the rest of them are too embarrassed, afraid their investors won't like what they see. Not Ted. In our interview he broke the fund managers "code-of-silence" and disclosed his own personal investment strategy, something I'll bet your fund manager won't do.

So here's Ted's 11-fund Lazy Portfolio, the one that did over 30 percent in 2003 and 15 percent in 2004. And remember folks, this is an asset-allocation strategy most financial planners charge big bucks for. Look closely: The asset allocations percentages are in front of the fund's name and the 2004 annual returns are behind the ticker symbol of each fund:

Domestic stock funds (40%)

(5%) Wilshire 5000 (VTSMX (http://www.marketwatch.com/tools/quotes/detail.asp?view=detail&symb=VTSMX&siteid=myyahoo&d ist=myyahoostoryquote): news (http://www.marketwatch.com/tools/quotes/news.asp?siteid=myyahoo&symb=VTSMX&dist=myyahoosto rynews), chart (http://www.marketwatch.com/tools/quotes/intchart.asp?siteid=myyahoo&symb=VTSMX&dist=myyaho ostorychart), profile (http://www.marketwatch.com/tools/quotes/profile.asp?siteid=myyahoo&symb=VTSMX&dist=myyahoo storyprofile)) (12.5%)

(15%) S&P 500 Index (VFINX (http://www.marketwatch.com/tools/quotes/detail.asp?view=detail&symb=VFINX&siteid=myyahoo&d ist=myyahoostoryquote): news (http://www.marketwatch.com/tools/quotes/news.asp?siteid=myyahoo&symb=VFINX&dist=myyahoosto rynews), chart (http://www.marketwatch.com/tools/quotes/intchart.asp?siteid=myyahoo&symb=VFINX&dist=myyaho ostorychart), profile (http://www.marketwatch.com/tools/quotes/profile.asp?siteid=myyahoo&symb=VFINX&dist=myyahoo storyprofile)) (10.7%)

(10%) Wilshire 4500 Mid-/Small-Cap (VEXMX (http://www.marketwatch.com/tools/quotes/detail.asp?view=detail&symb=VEXMX&siteid=myyahoo&d ist=myyahoostoryquote): news (http://www.marketwatch.com/tools/quotes/news.asp?siteid=myyahoo&symb=VEXMX&dist=myyahoosto rynews), chart (http://www.marketwatch.com/tools/quotes/intchart.asp?siteid=myyahoo&symb=VEXMX&dist=myyaho ostorychart), profile (http://www.marketwatch.com/tools/quotes/profile.asp?siteid=myyahoo&symb=VEXMX&dist=myyahoo storyprofile)) (18.7%)

(5%) MSCI US Small-Cap Growth (VISGX (http://www.marketwatch.com/tools/quotes/detail.asp?view=detail&symb=VISGX&siteid=myyahoo&d ist=myyahoostoryquote): news (http://www.marketwatch.com/tools/quotes/news.asp?siteid=myyahoo&symb=VISGX&dist=myyahoosto rynews), chart (http://www.marketwatch.com/tools/quotes/intchart.asp?siteid=myyahoo&symb=VISGX&dist=myyaho ostorychart), profile (http://www.marketwatch.com/tools/quotes/profile.asp?siteid=myyahoo&symb=VISGX&dist=myyahoo storyprofile)) (16.0%)

(5%) MSCI US Small-Cap Value (VISVX (http://www.marketwatch.com/tools/quotes/detail.asp?view=detail&symb=VISVX&siteid=myyahoo&d ist=myyahoostoryquote): news (http://www.marketwatch.com/tools/quotes/news.asp?siteid=myyahoo&symb=VISVX&dist=myyahoosto rynews), chart (http://www.marketwatch.com/tools/quotes/intchart.asp?siteid=myyahoo&symb=VISVX&dist=myyaho ostorychart), profile (http://www.marketwatch.com/tools/quotes/profile.asp?siteid=myyahoo&symb=VISVX&dist=myyahoo storyprofile)) (23.5%)

Foreign stock funds (30%)

(15%) Emerging MarketsMSCI-EMGFree (VEIEX (http://www.marketwatch.com/tools/quotes/detail.asp?view=detail&symb=VEIEX&siteid=myyahoo&d ist=myyahoostoryquote): news (http://www.marketwatch.com/tools/quotes/news.asp?siteid=myyahoo&symb=VEIEX&dist=myyahoosto rynews), chart (http://www.marketwatch.com/tools/quotes/intchart.asp?siteid=myyahoo&symb=VEIEX&dist=myyaho ostorychart), profile (http://www.marketwatch.com/tools/quotes/profile.asp?siteid=myyahoo&symb=VEIEX&dist=myyahoo storyprofile)) (24.8%)

(10%) Pacific Stock Index MSCI-PAC (VPACX (http://www.marketwatch.com/tools/quotes/detail.asp?view=detail&symb=VPACX&siteid=myyahoo&d ist=myyahoostoryquote): news (http://www.marketwatch.com/tools/quotes/news.asp?siteid=myyahoo&symb=VPACX&dist=myyahoosto rynews), chart (http://www.marketwatch.com/tools/quotes/intchart.asp?siteid=myyahoo&symb=VPACX&dist=myyaho ostorychart), profile (http://www.marketwatch.com/tools/quotes/profile.asp?siteid=myyahoo&symb=VPACX&dist=myyahoo storyprofile)) (18.8%)

(5%) European Stock Index MSCI-EUR (VEURX (http://www.marketwatch.com/tools/quotes/detail.asp?view=detail&symb=VEURX&siteid=myyahoo&d ist=myyahoostoryquote): news (http://www.marketwatch.com/tools/quotes/news.asp?siteid=myyahoo&symb=VEURX&dist=myyahoosto rynews), chart (http://www.marketwatch.com/tools/quotes/intchart.asp?siteid=myyahoo&symb=VEURX&dist=myyaho ostorychart), profile (http://www.marketwatch.com/tools/quotes/profile.asp?siteid=myyahoo&symb=VEURX&dist=myyahoo storyprofile)) (20.8%)

Fixed-income funds (30%)

(10%)TIPS: Inflation-Protected Securities (VIPSX (http://www.marketwatch.com/tools/quotes/detail.asp?view=detail&symb=VIPSX&siteid=myyahoo&d ist=myyahoostoryquote): news (http://www.marketwatch.com/tools/quotes/news.asp?siteid=myyahoo&symb=VIPSX&dist=myyahoosto rynews), chart (http://www.marketwatch.com/tools/quotes/intchart.asp?siteid=myyahoo&symb=VIPSX&dist=myyaho ostorychart), profile (http://www.marketwatch.com/tools/quotes/profile.asp?siteid=myyahoo&symb=VIPSX&dist=myyahoo storyprofile)) (8.2%)

(10%)High-Yield Corporate (VWEHX (http://www.marketwatch.com/tools/quotes/detail.asp?view=detail&symb=VWEHX&siteid=myyahoo&d ist=myyahoostoryquote): news (http://www.marketwatch.com/tools/quotes/news.asp?siteid=myyahoo&symb=VWEHX&dist=myyahoosto rynews), chart (http://www.marketwatch.com/tools/quotes/intchart.asp?siteid=myyahoo&symb=VWEHX&dist=myyaho ostorychart), profile (http://www.marketwatch.com/tools/quotes/profile.asp?siteid=myyahoo&symb=VWEHX&dist=myyahoo storyprofile)) (8.5%)

(10%)Long-Term Treasury (VUSTX (http://www.marketwatch.com/tools/quotes/detail.asp?view=detail&symb=VUSTX&siteid=myyahoo&d ist=myyahoostoryquote): news (http://www.marketwatch.com/tools/quotes/news.asp?siteid=myyahoo&symb=VUSTX&dist=myyahoosto rynews), chart (http://www.marketwatch.com/tools/quotes/intchart.asp?siteid=myyahoo&symb=VUSTX&dist=myyaho ostorychart), profile (http://www.marketwatch.com/tools/quotes/profile.asp?siteid=myyahoo&symb=VUSTX&dist=myyahoo storyprofile)) (7.1%)



Ted's candor about his strategy fits his reputation for total integrity. In fact, a couple years ago TheStreet.com called him "the world's most honest money manager." That helps explain why, during last year's fund scandals, Ted served as Chairman of the Board of Governors of the Association of Investment Management & Research, the leading professional organization for money managers, with 70,000 members in 100 countries.

Simple buy-and-hold asset allocation strategy

So when Ted speaks, you should listen. In fact, it's important for every American investor to understand Ted's super-simple portfolio. Remember, there are absolutely no actively managed funds in this lazy portfolio. All 11 funds are low-cost no-load Vanguard index funds, a strategy used in virtually all the "Lazy Portfolios."

In fact, Ted even bought the Vanguard S&P 500 index fund when it first came out way back in 1976 (in fact, $10,000 invested in that fund back in 1976 would be worth more than $200,000 today, thanks to compounding). And like all the funds in his portfolio, he doesn't sell or trade, he just keeps adding new money to rebalance and maintain the designated asset allocations.

So yes, Ted's justified in staking his claim on the Laziest Portfolio of 2004: "Wrap it up! I'll take it! What a splendid year! Domestic stocks ranged from average (S&P 500, which since 1926 averaged 10.4 percent) to extraordinary (small-cap value). Bonds were certainly acceptable. I'd take 7-8 percent until the cows come home. And foreign provided the real pizzazz: 18-25 percent. Doesn't get much better than that!"

Still Ted's cautious, holding relatively steady on his asset allocations, with some minor tweaking:

"I suggest cutting back on bonds, by moving 5 percent from long-term Treasuries and 5 percent from high-yield bonds. The dough should go into emerging market stocks (from 15 to 20 percent) and Pacific portfolio from 10 to 15 percent. Everything else remains the same." So aggregate asset mix for 2005:

U.S. equities: 40% (skewed to small- and midcaps)

International equities: 40% (skewed to emerging and Japan)

Bonds: 20% (skewed to TIPS)

Overall, Ted's conservative about 2005: "At the risk of sounding like a broken record, I think 2005 will be a year dominated by low, single-digit returns. Most assets are fairly priced at best. If inflation/rates tick up, bonds (total returns) could be off a few percent. And stocks might be in the 0%-10% range (the low end for domestic and the higher end for emerging markets). My portfolio recognizes all these forecasts have especially wide bands around them -- thus the balance and diversification. On the other hand, by heavily favoring equities, it recognizes that stocks will outperform bonds."

So Ted's letting his winnings ride on the "Laziest Portfolio for 2005!" And he can. He's got a winning track record here. Maybe you should bet with him!

Next week we'll update the other of the "Laziest Portfolios" that we've been tracking for the past several years: The Coffeehouse Portfolio, No-Brainer Portfolio and the Couch Potato Portfolio. Come back and find out which one did over 14 percent last year and why you need one of the "Laziest Portfolios" to prepare for the next bear correction.

[Mike]

I'll be using a number of those funds for my Roth. :D

[rokid]

WW

More risk means more return - potentially!

Mr. Aronson increased his equity risk with an increased allocation to small cap stocks (small cap value stocks have the highest historical return of any domestic equities) and emerging markets. In other words, he took on more risk to achieve more return. Last year he reaped the benefits.

Even though TSP doesn’t provide small value/growth options or an emerging market fund, an allocation of 19% C Fund and 21% S Fund, and 30% I Fund closely mimics his allocations and only falls .87% below his return. If you add in 30% F Fund, the total return for this TSP fund only portfolio is 13.13%, i.e. only 1.96% below Mr. Aronson’s return. Of course, if you want to take on more risk, you can reduce your bond allocation, e.g. 25% or 20%.

Mr. Aronson’s big advantage is in the bond returns. He averaged 7.9%. Of course, the TSP G & F Funds only provided a 4.3% return. I’m assuming the long term treasuries and corporate bonds carry an inflation risk – again higher risk for a higher return. However, the TIPS fund can’t have an inflation risk. Perhaps, TSP should consider a TIPS fund! :^

rokid, http://smileys.smileycentral.com/cat/23/23_13_3.gif (http://www.smileycentral.com/?partner=ZSzeb001_ZN) W_W

[rokid]

WW.

You're welcome. Interesting arcticle. Glad to see you back on the message board.

[Pete1]

I find the message of this article contradictory.Quoting the article:

"Ted also won the 2003 award, with returns of more than 30 percent, beating the S&P 500 by a wide margin both years, with less risk. What's his secret? No secret! Like all the other "Lazy Portfolios," Ted's uses a simple, no-nonsense, passive, well-diversified asset-allocation strategy with no trading, no tinkering and no rebalancing."

Yet later in the article:

"I suggest cutting back on bonds, by moving 5 percent from long-term Treasuries and 5 percent from high-yield bonds. The dough should go into emerging market stocks (from 15 to 20 percent) and Pacific portfolio from 10 to 15 percent. Everything else remains the same." So aggregate asset mix for 2005:

U.S. equities: 40% (skewed to small- and midcaps)

International equities: 40% (skewed to emerging and Japan)

Bonds: 20% (skewed to TIPS)

Overall, Ted's conservative about 2005: "At the risk of sounding like a broken record, I think 2005 will be a year dominated by low, single-digit returns. Most assets are fairly priced at best. If inflation/rates tick up, bonds (total returns) could be off a few percent. And stocks might be in the 0%-10% range (the low end for domestic and the higher end for emerging markets). My portfolio recognizes all these forecasts have especially wide bands around them -- thus the balance and diversification. On the other hand, by heavily favoring equities, it recognizes that stocks will outperform bonds."


Huh? No tinkering, no trading? What the heck is Farrell talking about? 10% less in fixed income, 5% more in emerging markets, and 5% more in Pacific? I guess Farell has a different perspecitive on no tinkering buy and hold than I do. So the poor saps who chose Aronson's lazy portfolio are faced with a choice - do they abandon the previous asset allocation in favor of the new one? Is the 70/30 allocation now wrong? Very inconsistent message.

[Pete1]

BTW, WW, I am notquestioning your intentions in posting this article. I am questioning Farrell's message. I have written an email to him about the article.

Pete1 wrote:
BTW, WW, I am notquestioning your intentions in posting this article. I am questioning Farrell's message. I have written an email to him about the article.Hi Pete, No problem. I post articles that I think are interesting or that I think others might be interested in. I wouldn't identify with an article so to be insulted by a critique of it.I'm going to post some similar and f/u articles now but don't go crazy :u. W_W

[Rolo]

Pete1 wrote:
Huh? No tinkering, no trading? What the heck is Farrell talking about? 10% less in fixed income, 5% more in emerging markets, and 5% more in Pacific? I guess Farell has a different perspecitive on no tinkering buy and hold than I do.

Buy-and-hold doesn't mean never, ever touch your portfolio. Besides, you have to decide where you are putting your new money every year.

[Pete1]

Rolo, if you read Farrell's book, the other "lazy" portfolios do not change from year to year in the manner described above. Rather, they are rebalanced to the original allocation percentages each year with no tinkering. They are static (sometimes, this strategy is called "strategic asset allocation"). For example, the "Couch Potato" portfoliocreated by Scott Burns, consists of 50% domestic largeand 50% domestic bonds. A reasonable TSP proxy is50%C and 50% F.This basic allocation never changes. It may get out of balance but each year, you simply perform an interfund transfer to rebalance to 50/50. Very simple.

Another of the lazy portfoliosis the"No Brainer" created by Bill Bernstein and consists of 4 funds divided equally between domestic large, domestic small, international, and fixed income. A proxy with the TSP funds is 25% C, 25% S, 25% I, and 25% G or F. Once again, the basic allocation never changesand the portfolio is rebalanced each year to the original percentages.

Regarding new money,contribution allocations are set up per the basic allocation strategy,eg, Couch = 50C/50F, No Brainer = 25C, 25S, 25I, 25G orF.During rebalancing, you will purchase shares of thelowest performing asset class by sellingshares of the highest performing asset classes.

I have noted annual rebalancing several times but some prefer a 2 or 3 year rebalancing schedule. The basic point of rebalancing is to buy more of the low performers every year, two, or three by selling the high performers. Certainly not rocket science and certainly not very exciting but it works. Kind of like watching the grass grow.

The above article is subtly endorsing a different strategy - dynamic asset allocation. InDAA, the allocation changesperiodically, even daily in some cases. The Couch and No Brainer are often termed strategic asset allocation (no tinkering allowed, the basic allocation is static). Farrell is mixing thetwo concepts and frankly, itwould be very confusing to the novice who read Farrell's "Lazy Person's Guide to Investing" and who went with the 70/30 allocation posited by Aranson last year and now, must wonder if they need to go with the80/20 allocation this year.Read Farrell's book and I think you will see what Imean - he forbids market timing and yet, seems to endorseDAA, a form of timing,in the article.

[Rolo]

Ah, gotcha. Yes, I never read the book, nor heard of the guy. I do know of strategic allocation, and you are right, changing, except by virtue of time-horizon, is verboten.

I always believed dynamic allocation is best, even before I've heard of it. I don't consider adjusting the basic strategy to the current economic climate to be market timing. i.e. "I'll exchange some of my small-capfund for more of my large-cap fund because large-caps are outperforming small-caps, which is part of the cycle of a bull-run." and "I will sell some bonds in favour of REITs/hard assets/energy, for obvious reasons."

Market timing is more speculative, rapid, and usually involves charts, which, to me, is completely different than just seeing how the market is currently doing and adapting accordingly.

If you always shopped at Linen 'n' Things, but Bed Bath and Beyond sent you a 50% off coupon, would you not go or would that not be a part of your strategy? (heh heh, ya think I'm still decorating today?)

[rokid]

Pete,

Great post!

Is Farrell's book worth reading?

What other books/articles would you recommend for someone who's already read both Bersteins, Bogle, Malkiel, Siegel, Gibson, Ibbotson, Graham, Sharpe, and Shiller?

Is there anything that persuasively discusses DAA?

Finally, there have been a number of recent "I don't know anything about investing. What should I do?" posts.Is there anything on the web that discusses buy-and-hold strategic asset allocation for the beginner in a couple of pages or less?

[Pete1]

Rolo, beware of performance chasing, ie,dumping a significant amount of your assets into a fund or asset class with recent high performance just beforethe fund/asset class reverts to the mean. Very easy to get burned by doing this. Also, beware of following the herd. The current wisdom (noise) of the herd appears to bethat investors should shift the composition of the equity portion of theportfolio away fromsmall caps and international to large cap domestic growth. I believe that is what we saw around the first of the year with small caps - folks rebalancing out of small to large based on a herding instinct. According to the herd,the whole investingparadigm changed when we passed from 2004 to 2005.

Rokid, there is very good info to be gleaned from Farrell's book but he seems to beall over the placein his weekly column. Very inconsistent message. For example, in one of his columns last year,he predicted a major market crash in 2004 resulting from a domestic terrorist attack and advised readers to adjust accordingly.In retrospect, very bad advice. Read his stuff with a grain of salt.

Sounds like you have already read most of my favorites. :) You might be interested in reading the many books written by Larry Swedroe. Jonathan Clements is also very good. Rick Ferri might also be of interest.

In"The Intelligent Asset Allocator",Bill Bernstein discusses a moderate DAA strategy. Beyond that, I have not read anythingcompelling.There are many data miners out there claiming superior backtested results. Past performance is no guarantee of future performance. Caveat Emptor.

Coffeehouseinvestor.com includesvery concise advise for beginners. Would highly recommend this webpage. "The CoffeehouseInvestor" by Bill Schultheis is a very good beginners book but is currently out of print. Bill indicated on the Vanguard Diehards forum that an updated version will be out later thisyear.

Pete

[Rolo]

Pete1 wrote:
Rolo, beware of performance chasing, ie,dumping a significant amount of your assets into a fund or asset class with recent high performance just beforethe fund/asset class reverts to the mean. Very easy to get burned by doing this.
Agreed! A point Ric Edelman discussed heavily, mockingly.

[rokid]

Pete,

Thanks.