assignment 1 (Due on Aug 30th) - Write-up on Asset allocation and Investment strategy. Write up your takeaway after reading the followings. Two pages, single space, 12 points. The readings are in the lecture note. Submit a hard copy in class and a softcopy on Canvas. . . . Asset Allocation, by Roger Gibson Asset Allocation, by John Templeton 9 Advantages of Long-Term Investing Holding stocks for 20 years can turn bad returns to good The Benefits of Diversification: A Look Back at the Past 20 Years of Stock Market Performance (find this article from chapter 6 in the reader) Stock Market Strategies: Are You an Active or Passive Investor? (find this article from chapter 6 in the reader) . . Grading rule: 95 having for all summaries and personal experiences or how your ideas have changed about investment after reading, 85, if summaries for all listed articles are included 80, if all summaries are included but not good enough 70 or below, depending on coverage of summary . . Reading Asset Allocation (by Roger Gibson) Experienced investors all understand four wonderfully powerful truths about investing, and wise investors govern their investing by adhering to these four great truths: of money. 1. The dominant reality is that the most important decision is your long- term mix of assets: how much in stocks, real estate, bonds, or cash. 2. That mix should be determined by the real purpose and time of use 3. Diversify within each asset class and between asset classes. Bad things do happen-usually as surprises. 4. Be patient and persistent. Good things come in spurts-usually when least expected—and fidgety investors fare badly . “Plan your play and play your plan," say the great coaches. “Stay the course” is also wise. So is setting the right course—which takes you back to great truth 1. Curiously, most active investors-who all say they are trying to get better performance--do themselves and their portfolios real harm by going against one or all of these truths. They pay higher fees, costs of change, and taxes; they spend hours of time and lots of emotional energy; and they accumulate "loss leaks” that drain away the results they could have had from their investments if they had only taken the time and care to understand their own investment realities, develop a sensible long-term program most likely to achieve their goals, and stay with it. The importance of being realistic about investing continues to increase because the markets are increasingly dominated by large, fast-acting, well- informed professionals who are armed with major advantages. During 1 the past generation, to cite a few examples, the following basic changes have taken place: . . Institutions have gone from executing 10 percent of all trades to 90 percent. Exchange volume, using the NYSE as an example, has mushroomed from 3 million shares to 1.5 billion shares, and derivatives volume doubles that to 3 billion shares-a thousand-fold increase. • The 50 largest institutions now do half of all trading, so when an individual buys or sells, half the time she is trading against one of the fast, smart giants. Sure, the individual may win sometimes, but can she win regularly? Even the pros find it very hard to beat the market. Over the last 5, 10, or 20 years, more than half got beaten by the market. For individuals, the "If you can't beat 'em, join 'em." That is why indexing has become so widely accepted. An even-better reason for individuals to index is that grim reality is far worse. the past generation, to cite a few examples, the following basic changes have taken place: • Institutions have gone from executing 10 percent of all trades to 90 percent. . Exchange volume, using the NYSE as an example, has mushroomed from 3 million shares to 1.5 billion shares, and derivatives volume doubles that to 3 billion shares-a thousand-fold increase. The 50 largest institutions now do half of all trading, so when an individual buys or sells, half the time she is trading against one of the fast, smart giants. Sure, the individual may win sometimes, but can she win regularly? Even the pros find it very hard to beat the market. Over the last 5, 10, or 20 years, more than half got beaten by the market. For individuals, the grim reality is far worse. "If you can't beat 'em, join 'em." That is why indexing has become so widely accepted. An even better reason for individuals to index is that they are then free to devote their time and energy to the one role where they have a decisive advantage: knowing themselves and accepting markets as they are-just as we accept weather as it is--and designing a long-term portfolio structure or mix of assets that meets important tests: 1. The investor can and will live with it. 2. The long-term, reasonably expectable results will meet the investor's own priority. While some few investors are so skillful, so well supported, and so independent that they really can add value by actively changing their investments, the records show over and over again that their number is fewer than most investors are willing to believe. For the individual, the chances of identifying one of these great winners before their record has been established is very low. Changing managers--firing one before disappointment and hiring a new one before success is shown-is virtually impossible. Such "dat- ing" should be recognized as an expensive waste of time and energy and avoided by all serious investors. So the great advantage of investors concentrating on asset mix deci- sions is that it helps them avoid the "snipe hunt” of a vain search for per- formance and concentrates their attention on the most important decision in investing --long-term asset mix to minimize the odds of unacceptable outcomes caused by avoidable mistakes and maximize the chances of achieving priority investment objectives. If, as the pundits say, “success is getting what you want and happiness is wanting what you get," all investors, by concentrating on asset mix, can be both successful and happy with their investments by living with and investing by the four simple truths, so that their investments really do work for and serve them, Of course, as all experienced investors also know, most individual in- vestors take many, many years and many mistakes and unhappy experi- ences to learn these simple but never easy truths. Fortunately, there is a convenient alternative: we can all learn, as Harry Truman recommended so wisely, by reading history. Markets are markets and people are people, and together they have created or written a lot of history. Reading Asset Allocation (by John Templeton) that successful investing is mainly increase. After 49 years of professional investment counseling worldwide, I believe search for an asset where you can buy the greatest value for each dollar common sense. It is common sense to multitude of similar investments in order to select that one which can be you pay. This means bargain hunting. For example, it is wise to compare a bought for the lowest price in relation to other similar assets. If you buy a share of a company for a small fraction of its intrinsic value, then there is less risk of a major price decline and more opportunity for a major price To diversify your investments is clearly common sense so that those that produce more profits than expected will offset those that produce less. Even the best investment professional must expect that no more than two-thirds of his decisions will prove to be above average in profits. Therefore, asset allocation and diversification are the foundation stones of successful long-term investing. To diversify means that you do not put all of your assets in any one type of investment. Similarly, it is not wise to invest only in the shares of any one company, industry, or nation. If you search in all nations you are likely to find more good bargains and perhaps better bargains. Clearly you will reduce the risk because bear markets and business recessions occur at different times in different nations. Changing economic condi- tions also affect various types of investment assets differently. By diversi- fying among different types of assets, the value of your portfolio will not fluctuate as much. To begin with modest assets and build a fortune obviously requires thrift. An investor seeking to become wealthy should adhere to an an- dual family expense budget that includes a large amount of savings. For example, during my first 15 years after college, I made a game of adhering to a budget that included saving 50 cents out of every dollar of earnings. Those who are thrifty will grow wealthy, and those who are spendthrifts will become poor. Also, there is a magic formula called dollar-cost averaging in which you whose price fluctuates. At the end of the investment period, your aver. invest the same amount of money at regular intervals in an investment words, your dollars will buy more shares when prices are low and fewer age cost will be below the average price paid for the investment. In other shares when prices are high, so that your average cost is low compared with the average for the market. questions. Is this company growing more rapidly than its competitors? Is sticks for judging value. A most reliable yardstick is how high is the price When selecting shares for purchase there are many dozens of yard- in relation to earnings. However, it is even more important to ask how future. A share is nothing more than a right to receive a share of future high is the price in relation to probable earnings 5 to 10 years in the earnings. Growth in earnings usually results from superior management. Even the best professionals have great difficulty in judging the ability of management. For the part-time investor, the best way is to ask three the profit margin wider than its competitors? Are the annual earnings on invested assets larger than for competitors? These three simple indica- tors will tell you much about the ability of management. History shows frequent and wide fluctuations in the prices of many these price swings will have on your portfolio. Asset price fluctuations types of assets. Proper asset allocation helps to dampen the impact that may be even greater and more frequent in the future because all human activity is speeding up. This is one reason why you should not select a professional advisor based on short-term performance. For example, an advisor who takes the most risk is likely to have top performance in a bull market and the opposite in a bear market. Individual investors as well as managers of pension funds and university endowments should judge the ability of investment advisors over at least one full market cycle and preferably several cycles. This helps to balance out the element of luck and reveal which advisor has received the blessing of common sense. I hope that almost every adult will become an investor. When I be- came an investment counselor there were only 4 million shareholders in America, and now there are 48 million. The amount of money invested in American mutual funds is now 1000 times as great as it was 55 years ago. Thrift, common sense, and wise asset allocation can produce excellent results in the long run. For example, if you begin at age 25 to invest $2000 annually into your Individual Retirement Account where it can com- pound free of tax, and if you average a total return of 10 percent annually, you will have nearly a million dollars accumulated at age 65. Investment management requires the broad consideration of all major investment alternatives. In this book, Roger Gibson develops the prin- in a rapidly changing world. In easily understood terms, he guides invest- ment advisors and their clients step-by-step through a logical process for making the important asset allocation decisions. The broadly diversified investment approach Roger Gibson advocates should give investment advisors and their clients good investment results with increased peace of mind. John M. Templeton Chairman of the Templeton Foundations April 11, 1989
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