Wednesday, March 25, 1998

The Balanced Portfolio
By Charles Wallace ([email protected])

The Wise Men of Wall Street all agree that everyone should have a balanced portfolio comprised of stocks, bonds and cash. Foolishly, I ask, "Why?" They respond, "Everybody knows that." Somehow it rings of an ancient dogma based on the authority of questionable heritage.

When asked, "What kind of balance?," the Wise Men do not all agree. One-third, one-third, one-third is popular. Others have formulas, including important things such as the phase of the moon, the local speed of sound and the output from someone’s Ouija board. Being a mere Fool I do not understand this.

I understand the stock part. The long-term run of the stock market is always up, so even if your market timing is poor, in the long run you do very well.

I have more trouble with the bond market. If the bidding is fierce on next week’s treasuries, the price goes up and consequently the interest rate goes down. So I ask the Wise Men "What is going to happen next week?" One Wise Man responds, "No one knows." Another comes back, "It will probably go down because it has for the last three weeks." I note it has been cold in New York for the last three weeks, do you suppose that it will be cold next week? "Yes," he responds. Being only a Fool I think, "Is that really a prediction of weather and markets, or simply an extrapolation?" Someday I think it will be warm again in New York and the bond market will turn around.

I asked a very Wise Woman, "What is the long-term trend of the bond market?" "There isn’t any," she tells me. I then asked, "Why would I want to be in that?" She responds, "It’s only for the wise and knowledgeable." "Oh, you mean the wise men and the ‘financial consultants’ that ruined Orange County?" I have enough trouble with the stock market, so why bother with something I know even less about? I am not even convinced many Wise Men really understand it either.

I have trouble with cash, too. It seems like it is only a parking place, not an investment. Why would I want a third of my money tied up in this stuff? I have a margin account, and can write a check against that in the event of an emergency or the passionate need to buy an original Modighani at the Art Gallery. Let me see, I have $38.67 in real cash right now. Somehow I don’t think the wise one would consider that I am 2/3 balanced, even though I do a lot better than many of them.

I asked the Wise Man, "By cash do you mean green backs that I stuff in a mattress?" He responds, "Of course not, you fool. Leave it with my brokerage company and I can pay you an absolutely miserable rate of interest." I look at the interest rates. They charge their clients 11% and would be willing to pay me 4% for my money. Not too bad, a 7% spread using other people’s money. The brokerages are not dumb. Somehow at this rate it does not seem like I am going to make much progress compared to Warren Buffet. Assuming that the inflation rate stays at a low 3%, I will be increasing my buying power by 1% per year. Let’s see, I can double my buying power in a tad under 70 years. I might just not live that long.

I notice that the brokerages are also resplendent with a fine amalgam of philosophy, abstractions and platitudes. Perhaps these three elements comprise the balanced investment advice to match the balanced portfolio.

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