Their Confidence Is Killing Your Returns

English: Eugene Fama receiving the inaugural M...
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There is a scientific method of building a risk adjusted gloablly diversified portfolio. Trying to find the next hot asset class or stock or fund manager is a futile exercise. To succeed in reaching your long term financial goals you must remain disciplined to a prudent strategy.

At the request of a prospective client, I proposed a risk adjusted portfolio, consisting of low management fee, passively managed stock and bond funds. I tilted the portfolio towards small and value stocks, consistent with the research of Eugene Fama and Kenneth French. Their research explained the relationship between risk and return for stocks. It is known as the Fama-French three-factor model. Distilled to its essence, the Fama-French three-factor model holds that a portfolio tilted toward small and value stocks (which increases risk) has a higher expected return than a portfolio without this tilt, over the long term. You can read more about the Fama-French three factor model here. In my recent book, The Smartest Portfolio You’ll Ever Own, I recommended portfolios of index and exchange traded fundsat different risk levels that investors could implement themselves. These portfolios are based on the research of Fama and French.My prospective client showed my recommendations to a friend who is a well-known financial advisor. He derided them as “possibly” suitable for those who wanted to preserve wealth, but not to grow it. In order to grow wealth, he advised retaining his firm because of its ability to time the markets and “customize an individually tailored portfolio of stocks and bonds.”

The research supporting my recommended portfolio is extensive and is summarized in the bibliography to my book. His advisor friend provided no research validating his approach to investing, but he made up for the lack of data with his air of infallibility and aura of expertise.

We all want to know what will happen next. Who will be the best ‘stock picker’? There is a scientific method to developing you portfolio for superior long term results.

Your comments are welcome or as well as your calls.

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