Is there no end to the honor and glory of Couch Potato investing? Is no peak too high? No recognition too great?
It appears not.
The Couch Potato Portfolio has not only been recognized in New York— as chronicled in my column of May 11— it is also the portfolio of a famed Nobel Prize winner. And we’re not talking about some run-of-the-mill Nobel Prize winner. We wouldn’t want the Couch Potato Portfolio to be endorsed by some goofy Peace Prize winner, a weird biologist, or an obscure chaos theorist.
No, the Couch Potato Portfolio is practiced, in real life, by one of the inventors of Modern Portfolio Theory itself.
Where did I learn this?
From Richard Thaler, probably the leading behavioral economist in America.
Here’s the story. A clear master of the amused diffidence required of all faculty members at the University of Chicago and similar institutions, Professor Thaler was making a presentation on “naïve portfolios.” His audience: a group of financial planners and journalists. Using an overhead projector, Professor Thaler moves smoothly from one chart to another until he shows one that quotes Harry Markowitz, an early pioneer in the development of modern portfolio theory.
And there it is, in black and white!
When asked how he invested his retirement funds, Professor Markowitz answered:
“I should have computed the historic co-variances of the asset classes and drawn an efficient frontier. Instead… I split my contributions 50/50 between bonds and equities.”
He wanted, he added, to “minimize my future regret.”
Why, he’s just like the rest of us!
I bet you tell yourself you should be computing historic co-variances all the time. Personally, one of my biggest regrets in life is that I haven’t spent enough time computing co-variances.
Instead, we’ve been Couch Potatoes, working our way from a portfolio that anyone can do if they can divide by two with the aid of an electronic calculator, to one that gets us a little further in party conversation because it requires the use of decimals like .75 and .25.
Significantly, both the Simple (50/50) Couch Potato and the Sophisticated (75/25) Couch Potato have done well in the last 12 months, a period that has been maddening for most investors. While a small number of people made enough money on Amazon, Yahoo, Priceline, and Ebay to buy a small undeveloped country and improve it, most investors— including most professionals— failed to beat the Standard & Poors’ 500 Index and spent the period waiting for the famed Index to get its comeuppance. Worse, virtually any commitment to fixed income assets was punished. Interest rates rose.
In the 12 months ending June 30th, the 50/50 Couch Potato Portfolio— in which half your money is invested in the no commission, low cost, low turnover Vanguard Index 500 Fund and half is invested in the no commission, low cost, low turnover Vanguard Total Bond Market Index Fund— rose 12.89 percent. That put it at the 24th percentile of all domestic balanced funds, according to Morningstar data, and at the 15th percentile of all international balanced funds. Ranked against all domestic equity funds the 50/50 Couch Potato placed 2,255th in a field of 4,779 funds, or at the 47th percentile.
In other words, our simple divide-by-two portfolio beat 53 percent of all domestic equity funds in yet another period of runaway stock prices, while taking less risk. It might even have minimized future regret, but we’ll have to wait and see.
As you might expect, the Sophisticated Couch Potato did still better, providing a return of 17.85 percent over the 12 months ending June 30th. The return put it in the top 5 percent of all domestic balanced funds and in the top 7 percent of all International balanced funds. Measured against all domestic equity funds, its return put it in the top 32 percent.
So what do we say at the Labor Day barbeque?
Try this, “I was a Couch Potato for years, but now I’m more sophisticated. I invest like Harry Markowitz.”
This information is distributed for education purposes, and it is not to be construed as an offer, solicitation, recommendation, or endorsement of any particular security, product, or service.
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(c) A. M. Universal, 1999