The Stock Market and a New Opportunity

For about a year now I have been feeling uneasy about the stock market. Things just seemed to be too good. About a year ago I stopped putting new money into stocks, and although money markets were basically yielding nothing, I kept putting more and more money into that asset class. Now it appears that some of the storm clouds have burst open and the market has taken a hammering this week, reminiscent of some of the worst of the 2008 meltdown. Having said this, unlike in 2008, I am not feeling a sense of impending doom. I am actually optimistic about the prospects for the US economy, now that the insane debt ceiling crisis has been resolved for the time being (may the Tea Party idiots pay the price at the polls).

Don't get me wrong, I think we are in for a little bit of a bear market, but my point is that if the market declines another 5% or 10% I will start reinvesting money in stocks. Not large amounts, and not crazy bets, but a fixed, measured amount of money going into index funds every month. I followed this strategy during the worst of the 2008 stock market collapse and it yielded outstanding returns. When everyone flees the market, that's when I feel the time is right for sober, calm investors to slowly but surely wade in. Yes, short term losses can be severe, but over a period of years, buying in a stock market bear market is a fantastic opportunity.

I love buying things on sale. :-)

Enjoyed this post? Please consider subscribing to Money and Such by free RSS Feed or by email. You can also follow me on Twitter.

Ironically, Time to Buy Bonds?

I am thinking what to do about the ridiculous debt limit impasse, with the imbecile Tea Party members of Congress imposing a US sovereign debt default, by choice, in the name of... fiscal responsibility?!?!  Basically they're saying: "I think we're borrowing too much, so we should stop paying our creditors...". Insane.

Anyway, I have come to the realization that it may be time to defensively buy bonds. What is it, you say? Buy bonds in the face of a government default? Well - here is my dilemma. I have complete faith that the government will pay every last dime it owes to its creditors. It may pay a few days late while the political theatrics play out in Washington, but pay it shall.

Meanwhile, if the government defaults even for a few days, the stock market could be severely hit as economic confidence is shaken (and stirred). If the treasury defaults, money market accounts could be hit. Government contracts may be delayed. Folks fearing a massive recession (a very real possibility in the event of default), may run screaming away from the stock market. Where will they run? Ironically, I think they may run in the direction of... short term treasury bills. The default will pass in short order, but an ensuing recession, with its accompanying decline in corporate profits may seriously hit the stock market.

So, logical conclusion... does it make to buy bonds in the face of a US sovereign debt default?

Man, what an idiotic situation these Tea Partiers are pushing us into. Are you sure it's only tea they're drinking? Is there some crack smoking going on as well?


Enjoyed this post? Please consider subscribing to Money and Such by free RSS Feed or by email. You can also follow me on Twitter.

How Predictable is the Stock Market?

Is the stock market predictable or inherently unpredictable? If you believe Nassim Taleb, author of The Black Swan, trying to predict the market is not only impossible, it is also a very risky proposition. I recently finished reading this thought provoking book and a number of interesting points stuck with me. One of these key points is Taleb's claim that the stock market is "Mandelbrotian" by nature, i.e. daily returns in the market are not "normally distributed", they don't follow a neat Gauss-like distribution, where daily returns don't stray too much from the average daily return.

Taleb's claim - which I tested for myself (but more about that in a second) - is that stock returns are "scale free". While on most days returns in the market remain in a relatively tight range, once in a while, a Black Swan strikes. A Black Swan is a completely unexpected event that greatly impacts the market in unforeseen ways, resulting in dramatic up or down days. These rare but dramatic events account for a large percentage of stock market returns over the long term.

I must admit that my assumption (even though I never really articulated it) was that while on a daily basis the market can swing up or down, these swings are largely confined to a pretty narrow range that would fall more or less neatly on a normal distribution curve. Well, Taleb claims (and I checked) that this is not the case.

Those that dislike statistics can skip this next paragraph, but for the rest of you, here goes: from Yahoo! Finance, I downloaded the daily returns for the S&P500 from January 3, 1950 to December 4, 2009. Almost 60 years of data. Through the miracle of Excel, I calculated the daily returns on the S&P500 (using closing prices in each case). From this population I calculated the average daily return (0.033%) and the standard deviation (0.966%). I then proceeded to calculate the z-score for each daily return figure. I won't bore you with all the results and analysis, but here are a few eye openers:

- I found a total of 90 days in which the z-score of daily returns exceeded 4 or -4. If stock market returns are normally distributed, we would expect to see one such event every approximately 143 year...

- I also found a total of 24 days in which the z-score of daily returns exceeded 6 or -6. Once again, if stock market returns were normally distributed we would expect to see one such event every approx. 4.6 million years...

- now here's a real doozy: on October 19, 1987 the S&P fell about 20.4% which translates to a z-score of -21.2 or one event every approximately... wait for it... 10 to the power of 93 years. For the sake of comparison, the age of the universe is estimated to be approximately 14.3 times 10 to the power of 17 seconds (or about 6000 years if you choose to get your information from certain unreliable sources). Another comparison point: the number of atoms in the universe is estimated to be approximately 10 to the power of 80...

Point spectacularly made. Stock market returns are NOT normally distributed.

Now, what are the implications of this discovery and what are we to do about it? Well, to be honest with you, I don't think I have good answers to this, but I will do my best to take a crack at some sort of answer over the next couple of days. Stay tuned.

Enjoyed this post? Please consider subscribing to Money and Such by free RSS Feed or by email. You can also follow me on Twitter.

Stewart vs. Cramer - the Movie

I really dislike CNBC and always have. This is a group of folks that are trying to make a living - true - but in the name of profits they are misleading a substantial group of people into thinking that what they are doing is somehow connected to investment success or financial savvy, rather than being what it truly is: a particularly bizarre and shrill form of entertainment. 

Anyway, one person is finally calling these guys out: John Stewart. More and more this guy seems like the closest thing to a serious reporter that we have available to us... Anyway, while I am guessing most of my readers have already seen this clip, I think it is impressive enough to link to it on my blog as well. If you haven't seen it, it is a must see. Way to go John!

Enjoyed this post? Please consider subscribing to Money and Such by free RSS Feed or by email. You can also follow me on Twitter.

Fall of a Stock Picker

In yesterday's Wall Street Journal, there was a front page article about William Miller, who I suppose is the manager of Legg Mason Value Trust, a mutual fund which according to the article "outperformed the broad market every year from 1991 to 2005. It's a streak no other fund manager has come close to matching". In spite of Mr. Miller's phenomenal run, in this latest market downturn he stumbled so badly that according to the WSJ, "These losses have wiped away Value Trust's years of market-beating performance. The fund is now among the worst-performing in its class for the last one-, three-, five- and 10-year periods according to Morningstar." The WSJ quotes an investor in this fund as saying: "Why didn't I just throw my money out of the window -- and light it on fire?", and complaining that Mr. Miller's strategy "worked for a long time, but it's broken." I would like to point out that throwing your money out the window and then lighting it on fire, is redundant. You could reduce your expenses by taking either action, but both are probably not necessary.

So what's my point? Only this: investing is not about beating the market over the short term. It's not even about beating the market consistently for 20 years. It's about generating enough returns to guarantee your financial future. Even if you think you found a star-performing fund manager, or you think you can pick stocks better than anyone else you know, you should have zero confidence that this streak will continue. Apparently Mr. Miller is a very talented investor. Either that, or he is lucky beyond belief. However, even his market beating returns were completely wiped out by a short term mistake.

What's the answer? As always, my answer is index investing: (i) trust in the long term average returns of the stock market and don't try to beat them because the house always wins, and (ii)  minimize your investment costs because that is the one element that is completely under your control. Oh yeah, and don't freak out and sell when the market turns south. Markets do that on occasion.

Enjoyed this post? Please consider subscribing to Money and Such by free RSS Feed or by email.

Giving Thanks that October is Over

Although I am a couple of days late, and am not typically susceptible to gooey holidays, this year I have much to be thankful for, and I am extremely grateful that October 2008 is over and done with. October 2008 was the most stressful period of time in my adult life, at least as far as I can recall. Here is how it all went down:

Stock market - while the stock market slump began in September, it did not truly turn into a massive, gut churning route until early October. Yes, we all lived through that, and to be honest, while I disliked the drop I wasn't terribly concerned by losses to our portfolio. What scared me was the knowledge that the financial system was on the very brink of complete collapse. For a while there, I was seriously contemplating pulling a few thousand dollars out of our bank account, just in case the banks shut down and we needed cash for our basic needs (we do have some cash reserves available at home, but nowhere near sufficient to live off of for several weeks). OK, but we all lived through this, and I was in no way unique.

Employment - as I have previously written, in late September my wife decided to quit her job. She had the big conversation with her boss just a day or two before the economic turmoil started in earnest. And while I completely supported my wife's decision to walk away, the timing we found ourselves caught in was truly nasty. All at once the hiring environment turned from difficult to practically impossible. However, since I have a well paying job that still would have been OK but...

Fund Raising - my company is a start-up and we were about to run out of money in the middle of November. As the executive responsible for the fund raising effort, I realized that our prospects for raising a new investment round in this type of financial climate were not encouraging. In fact, although I had to put on an optimistic spin and talk-up our chances to the rest of the executive team and the employees, I was truly worried that we would go out of business, which would leave my wife and I both unemployed in the worst hiring environment in decades. Moreover, I felt the heavy weight of 30 families' livelihoods rest on my shoulders. If I couldn't raise the money, I wasn't the only one who would be out of a job, my friends and colleagues, many of which are probably worse off than me, would be unemployed as well. Talk about stress. BUT, as they say in the infomercials, "wait, there's more!"

Sick as a Dog - for almost the entire month of October I was as sick as a dog (where does this saying come from?). I had a constant fever. Not high - hovering around 99F most of the time - but it was there and I felt like crap. I had batteries of blood tests performed ($10K worth, according to the doctor), urine tests, eye exam, even... a brain MRI. Nothing. The Dr. was planning to send me to do a full body CT Scan - which I seriously fought against. What can I tell you. It was pretty bad. Normally, I would probably take a few days off and hide in bed until I got better, but I couldn't do that. Not with our funding round so close to failure and the company so close to going out of business. So during that entire time, I had three meetings a day with venture capital funds, and countless other phone calls and follow-ups. Incidentally, the illness itself was bad, but the fact that the doctors couldn't figure out what the problem was for over three weeks was the really scary bit.

October was a really, REALLY bad month, BUT it is over and here is how it all turned out so far:

I am healthy - one of the many blood tests showed up some faint traces of infection. Ten days and one aggressive course of Cipro later and I am as good as new. 

Wife employed - it's contracting work, and it's only part time, but it pays the bills and my wife is happy and so am I. She is out looking for a new full time position, but we are realistic. It's probably going to take several months to find the next gig. Fine with us.

Money in the Bank - last week we closed a $12 million dollar investment round with two new venture capital funds. This means that we have enough money at least until April 2010. My CEO gave me a lot of credit for the fund raising and praised me to our board of directors. This is a major achievement for me and my reward is that I get to have a steady pay-check in this economy, and so do my colleagues.

The stock market? Well, that's still in the pits, and probably will be for a while, but that's OK. As long as the system itself continues to function (and it looks like it may be stable for now), we can ride it out.

I am extremely thankful that October is gone. While it has been the most stressful month in my adult life, I think I can honestly say that I am better for having gone through it and thrived. Things have worked out as well as could have been expected. 

Enjoyed this post? Please consider subscribing to Money and Such by free RSS Feed or by email.

Erratic Behavior in Crazy Markets

This economic meltdown is causing people to change long held investing strategies. Some times in a good way and often in ways that are bound to have some negative consequences down the line. These days pretty much every conversation I have with people devolves into a discussion of the markets and the sharp decline in stock prices. It seems like everyone always wants to talk about their portfolio... This post is about three investors I spoke with last week, and about how each of them is handling the situation:


Investor A - my brother in-law - an MBA, executive in a large (and stable) bank, and an extremely conservative investor. After years of holding their entire portfolio in money market accounts and short term CDs, my sister and brother-in-law have decided to put their money into the stock market... and now, of all times. My brother-in-law feels that the stock sell-off is way over done, and that this is a very good point in which to finally get into the market for the long term.


Investor B - President and General Manager of a $50M Silicon Valley high-tech company. As of Tuesday of last week, this high powered executive does not have a single red cent in the stock market. He fears that the economy is completely disintegrating and that additional steep declines are in the cards. He thinks that the damage to the stock market which will happen in the next few months will take five years of investing to undo. So far, this week, he certainly lost less money than I did.


Investor C - a former colleague and mid-level marketing manager. This gentlemen is going "all-in". Not only is he continuing his investment strategy, he is upping the ante and investing in a fund that is supposed to double the returns of the S&P, both up and... down. ARRRGGHHHH... the sheer terror of it...


Three investors, three very different approaches all with one thing in common - they are each responding to perceived market conditions. These investors each changed their strategy based on the precipitous drop in the market. In each case the motivation is either fear or greed.

I have chosen to stay the course. So far, and especially this week, this has been a gut wrenching experience. However, I gotta believe that if the strategy is fundamentally sound, there is no reason to change it. Once again, I will stick to the plan. Come the 15th of the month, I will make my regular monthly contribution to our stock portfolio, while keeping a barf bag close at hand.

Investing Basics: Stocks

The following is a guest post by Dan Carleton, who is not officially a blogger yet, but is thinking about starting a personal finance blog focused on the very basics of finance. I am always looking for new guest writers, so if you are interested in writing a guest post for Money and Such, take a look at these guidelines and drop me a line with your proposed post. And now, without further delay, the actual post:


Investing Basics: Stocks

This is the first post in what will hopefully become a series of helpful and simple articles that will decode finance babble. I’m of the thinking that most things in finance and investing can be explained with basic terminology. My general approach is to assume my reader knows little to nothing about the topic of the day. The goal, then, is to provide a base knowledge from which one can work.

Everyone should know enough about finance to ensure that they’re not getting ripped off. If you went to a mechanic, and he told you that your burned-out headlight would cost $250 to replace because he needed to disassemble the front end to get at it, you should know enough to have some red flags go up.

Investing is no different.

Today, let’s talk about stocks.

Definition

A stock is a security that gives financial ownership in a corporation.

Explanation

If you watch any business-oriented television shows, you would think that stocks were the pieces in a complicated game where neurotic and fickle investors slowly morph into bipolar disasters (BIAS ALERT: I think that day trading is a waste of time and energy, but I’ll save that for another post). Surprisingly, stocks are much simpler than you’d think.

There are two major types of stocks: common and preferred. Common is the type that you care about. Those are the stocks that everyone talks about, and they will be our focus. Pretend like preferred stocks don’t even exist. Most investors already shun them like the Puritans shunned Hester in The Scarlet Letter. So, don’t feel bad for doing the same.

Only corporations that have chosen to “go public” and have cleared all the legal hurdles can issue stock. Going public means that a company is selling ownership via stocks to whomever feels like buying it. Unless you’re a finance junkie, save yourself the time and energy and don’t dive into this idea any deeper. Your head will start hurting very quickly.

Corporations choose to issue stock for one basic reason: they want your cash, and they want it now. They have some project that they want to fund, and want you to be the wealthy benefactor. These projects might include expanding production facilities, buying a competitor, or giving a CEO a really nice year-end bonus.

If you’re wondering why a company would issue stock as opposed to borrowing money through bonds, you’re thinking along the lines of every single CEO out there. And, to be terribly honest, some of them aren’t even sure which is better.

Here’s the simple answer: sometimes stocks are better, and sometimes bonds are better. It depends on market conditions, the company’s current state of affairs, and to some extent, personal preferences. There is no across-the-board correct answer on this one, just like most things in finance.

Macroeconomic Ties

The economy’s main effect on a stock is on the price. Any economic news that has any direct or indirect relation to the corporation in question will probably affect the stock price.

Think of it this way: if a company is expected to perform better in the future for any reason, then the stock price should generally go up. Better future performance can happen for a lot of reasons: the company could, for example, be selling more of its products; they could be bringing out new technology that makes them bigger, better, faster, and/or stronger than their competition; or, the economic gods could be smiling on them.

Let’s use a few well-known companies to illustrate this. Ford Motor is losing vast amounts of money. Just hemorrhaging their cash. They aren’t selling cars, other companies are taking their place in the market, the benefits they owe to retirees are killing them, and they are having problems borrowing money because they are a big risk.

Their stock price is plummeting, down 75% in the last 10 years.

Guess what Toyota’s stock has done over that same time period. If you said that it’s gone up 98%, you are correct.

There are plenty of other reasons why stocks move. Think of oil companies. With the price of oil increasing, oil company stocks have generally gone up, as well. Why? Because with little effort of their own, a company’s products can now be sold at a ridiculously higher price than in the past (thanks to supply and demand). Higher prices mean more money coming in to the company, which means more profits for the owners, which, you guessed it, means that the stock price goes up.

Get it? Company doing well for whatever reason or economic gods being happy means stock goes up; company doing badly or economy working against company means stock price goes down.

No one consistently and accurately predicts all of the possible movements in a stock’s price. Not even the supposed experts. Use their opinions as guidance, not sacred scripture.

Comments are always welcome.


Editor’s Note: for the sake of clarification, all companies issue stock to their share holders. The main difference between a privately held company and a publicly traded company is that the shares of a publicly traded company can be offered to the public at large and may be bought and sold with few restrictions.

Companies go public for many other reasons in addition to raising cash. Three other common reasons are: (i) providing an “exit” or liquidity event for their original investors, shareholders and employees; (ii) the “prestige” or becoming publicly traded assists companies in obtaining more business; and (iii) publicly traded stock is “currency” with which companies are able to acquire other companies without spending actual cash. There are many other reasons for companies to go public.

Investing in Emerging Markets

A good friend recently told me that he has decided to place a substantial portion of his portfolio in index funds that specialize in the Chinese market, as well as two other funds that specialize in other emerging markets. When I pointed out that the Chinese stock market has seen dramatic returns recently and that there is serious talk of a bubble (see this excellent post by 1st Million), my friend pointed out that in previous discussions I said that timing the market is a bad idea. He got me there. I did say it, and I believe it.

So how do I reconcile my position against market timing with my belief that my friend's investment carries a substantial amount of unnecessary risk? Well, I don't think that there is really a conflict. In opinion, market timing is not a viable strategy. You shouldn't sit on the fence and wait for a crash before you invest, because you never really know whether a crash is coming. However, taking a sudden and large position in a market that has seen outsized returns for years is probably not advisable either. Regardless of what you tell yourself, such a move probably contains some element of performance chasing. Ask yourself, would I really make the same move if the market lost 20% in the past year?

I guess I should re-state my concern about my friend's investment strategy: it's not that I have a problem with emerging market investments at this specific point in time for fear of a bubble (although the market looks overly ebullient to me). Rather, I am concerned about the speed and magnitude of the move. If my friend took a gradual, dollar-cost-averaging approach to entering this risky investment, I would consider it a much better strategy.

So here is my personal opinion on investing in emerging markets:

1. Investing in emerging markets is a good thing, when done as a part of a broader, adequately diversified investment strategy. Emerging markets have a large potential for growth over the long run, and over such periods their stock markets are also likely to do well. In fact, I would bet that over the really long run, say 20 to 30 years, most emerging market equity markets will outperform U.S. equity markets.

2. Investing in emerging markets is extremely risky. If you are going to invest in emerging markets, make sure that you have the stomach to hold on to your investments even if you lose 50% or more in a single year. Remember the crises in Russia, Thailand and Argentina in the late 90's? Will you be able to hold onto your investments through declines of that magnitude? If you can't weather the down markets, find a less risky investment.

3. Investing in emerging markets is a long term proposition. If you plan to withdraw and spend your money in only a few years, this type of investment is not for you. If your investment horizon is not sufficient and you happen to be hit by one of the massive bear markets that emerging markets are notorious for, you might not be able to recover your losses.

4. Because of the risk profile I outlined above, move into the market slowly. There is nothing nastier than putting a large chunk of change in the market only to see much of it go up in smoke within a few days. If you want to get into the market, set a target time line of a year or so to complete your move, and complete it over a number of trades spaced a few months apart. That will give you some protection against sudden downwards shifts in the market.

Dealing with Fear of Investing

In recent weeks I have had conversations with some people who acknowledge that their investment strategy is too conservative given their age and investment time horizon. One of the main reasons these people cite for their overly conservative portfolios is a fear of losing their hard earned cash. Consequently, these individuals invest their savings in CDs or bond funds, and shy away from the stock market.

Let me begin by saying that I understand and accept risk aversion as a primary driver of investment strategy. In fact, no one should make any investment decision if that investment strategy will lead to them not being able to sleep at night. However, in the long run, what might seem like the "safe bet" will almost inevitably turn into a money losing proposition, given the stock market's propensity to outperform safer investments such as CDs or bonds.

If you share this very low tolerance for risk, but still feel that you are making a long term strategic error in staying out of the stock market, I propose the following strategy for dealing with the problem:

1. Risk Aversion is Legitimate - accept that you are uncomfortable with a large amount of risk. Do not try to over compensate for your risk aversion by buying emerging market penny stocks. Know who you are and what you are comfortable with, but try to gradually increase your level of comfort with the market.

You can do this by educating yourself on the various investment options open to you; by gaining a better understanding of how the stock market works; and in general by having a better sense of the economic forces at play. You may discover that much of your risk aversion is based on incorrect assumptions or even on a simple fear of the unknown.

2. Take Small Positions & Increase Them Over Time - one way to deal with your risk aversion is to slowly tip-toe into the market. Don't dump 40% of your investment portfolio into the market over night, go slow. Perhaps you will be comfortable with initially investing 5% of your assets in the stock market? Do that, wait six months and then decide if you are comfortable with moving a little more of your assets into the market. Taking this gradual approach may also protect you from sudden changes in market direction just as you enter the market.

3. Diversify - one of the best tools for reducing investment risk is diversification. Investing in a single stock, or a single industry sector is a risky proposition. However, investing in a large number of stocks diversified across multiple industries and (hopefully) multiple international markets is less risky. While the stock market inevitably experiences strong price fluctuations, the more diversified you are the less dramatic those fluctuations tend to be. The simplest and most cost effective way that I know of to achieve adequate diversification is to buy a broad based index fund such as Vanguard's Total Market Index Fund (VTSMX).

4. Check Your Investments Once a Quarter - if you are very risk averse, the worst thing you can do to your peace of mind is to track your investment performance on a daily basis. Remember, you are investing for the long term. Who cares what the stock market did today? Who cares if your mutual fund dropped 5% this week? All you should care about is how your portfolio will perform in the long run. Think years, not months. With that in mind, do yourself a favor: turn off CNBC, don't check the stock quotes and don't work yourself into hysteria. Check your investments once a quarter, and do so only to make sure that your mutual funds are performing well enough compared to their benchmarks.

5. Make a Plan to Limit Your Risk - if you are very sensitive to risk but still want to participate in the stock market, set your risk limits in advance. For example, decide that if your mutual fund loses more than 10% of your original investment you will sell it. That way you know that your risk is probably limited to losing about 10% of your money. That would sting, but it wouldn't be the end of the world. If you are investing for the long haul, that is probably not the wisest of strategies - I would just hold onto my diversified investments even in a down market - but if this type of risk limiting strategy helps you be more comfortable with the stock market, go for it.

Let me end this post by admitting to having a personal history as a fearful investor. I am now cured, pretty much due to the strategies I outlined above. After having endured the worst that the stock market had to offer during the darkest days of the Dotcom Bubble, I know I can pretty much handle any bear market without falling to pieces. However, I won't pretend that that was a fun ride...

Leveraged "Index" Funds - A Good Idea?

A colleague recently told me about ProShares Ultra S&P500 (AMEX: SSO). The goal of this investment vehicle is to provide investors with double the return of the S&P500 on any given day. When the S&P goes up 1% SSO is supposed to go up 2%. On days when the index drops 1%, SSO should decline by 2%.

This is an interesting concept for long term investors. Based on historical returns, the S&P can be expected to yield about 8% per year. If you believe that this trend will continue an investment in SSO or in something similar could potentially yield much higher returns.

To be precise, assuming an upwards trend of the S&P, SSO would yield more than double the return of the index due to compounding. Or at least, that's the theory, if you believe it. Here is an example: assume you invest $10K in the S&P. On day one the market goes up 1% and the market repeats this performance on the second day. At the end of day 2, you would have $10201. Assuming SSO works as billed, the first day it would go up 2% and the same performance would repeat on day 2. At the end of the second day you would have $10404. So, by investing in the S&P you gained $201, while by investing in this new vehicle you would be gaining $404. Notice that SSO gained more than double the S&P gain due to compounding. Unfortunately, the same is also true on the downside - if the market tanks, your investment will plummet like a rock.

A number of questions come to mind. First, is SSO real? Can it deliver volatility that is equal to 2X that of the S&P? This chart comparing SSO to the S&P for the past year shows that SSO clearly has more volatility. I could not easily find the beta value for SSO. Second, what does this investment vehicle cost? The prospectus (see page 8) describes an annual expense ratio of 1.5%. Pretty darn steep for an index investor like myself. The third question is how can SSO do what it claims it can do? The answer is: by using leveraged, aggressive investment vehicles. It uses futures contracts, options and a variety of other straetgies to achieve its objective. Could such strategies deliver the promissed results? Possibly.

So, what's the bottom line? Such investment vehicles are not for me. While the concept is very interesting, and could work in principal, I am going to stay out of this one. My three main reasons are: 1. This vehicle is still unproven from my perspective; 2. If you happen to start investing at a time when the market is about to decline, even modestly, you can basically kiss your assets goodbye; 3. By investing in something like SSO you are taking on MUCH more risk, for supposedly higher returns. My tolerance for risk is not THAT high, so I am going to sit this one out.

Still, I will be monitoring this asset class and will talk to my colleague to see how his investment is doing over the longhaul. For now, it's simple, boring index funds for Shadox.

Asset Allocation for March 2007

Periodically, I will be posting our portfolio's current asset allocation. Here is how we are investing our portfolio as of today:



This allocation does not include our emergency cash reserves, and does not include our 401(k) plans. However the allocation in our 401(k) plans is similar to that of the rest of our portfolio from an asset class perspective.

Note that our exposure to international markets is currently approximately 20%. My goal is to increase this exposure to about 25% within one year. This added exposure will come from the current cash allocation in the portfolio. See my previous post "Diversifying into International Markets" for a discussion of why I believe this is the right strategy for us.

Our exposure to the real estate market is about 7% of the portfolio. While this asset class has yielded impressive returns over the past 3 years, and I think it is due for a downturn, I will keep exposure at current levels since as a percent of the overall portfolio this asset class is properly weighted in my opinion.

The total return on this portfolio since March 2006, was 11.4%.

Investing is not Entertainment.

Stocks closed dramatically lower on Wall Street today. The pundits are preaching. The analysts are analyzing. The CNBC investotainment machine is on a roll. The DOW closed down 416 points. The NASDAQ is down 96. Fear in the streets.

What does all that mean to you? If you are smart and have a long term investment horizon it means absolutely nothing. Why should you care? The stock market goes up, the stock market goes down. Just as you should not uncork the champagne on good days, you should not go into mourning on bad ones. All that matters is the long term expected return. If your portfolio is well diversified, your long term investment outlook should not change based on today's market results (or indeed, based on this year's investment results).

Build a diversified portfolio, hold it, and ignore the hype. Expect up years, expect down years. In the long run your investments will probably do OK. The best way to drive down your returns is to invest based upon market fluctuations.

Sit tight, friends. Ignore the hype. Investing is not about entertainment value, it is about long term expected returns.