The Ignorant Investor

I'm sitting on a pile of cash right now. I should have added to my holdings of bonds years ago, but I figured the inflation rate would be higher. In retrospect I was wrong, but that's the nature of market predictions. You get some calls right and feel empowered. Then you make a decision with confidence and find a couple of years later that you're wrong. So then you're underconfident and do nothing, worrying about the next move you make being the wrong one.

My cash gets almost nothing sitting in a brokerage account, so it should go into something. Short-term bond funds are paying 1-2 percent,so I'm not losing a lot of money by not buying one. The longer terms yield more, but they're expose to interest rate risk. People say rates are going to rise, but how confident can I be about that? Japan has kept rates low for a very, very long time. Our Fed may talk about raising rates, but are they believable? Stocks have been on a big run, and the upside potential is being questioned. Real estate, which I bought only recently, is crazy valued already. It's all maddening. I tend to just think about it intensely for a few days and then give up in a fit of indecision or frustration.

This is why Lazy Investor style portfolios were invented. Trying to predict the future of the financial markets leads to uncertainty, and uncertainty leads to inaction. The advantage of a fixed allocation approach is that it's mechanical. No thinking. Just buy and open a statement every now and then to see if some kind of rebalancing is needed.

The thing to remember about asset allocation is that in hindsight, one or more of the segments of an allocation don't do well. Looking back over the year's returns and comparing all the funds in the portfolio to a list of all the other funds available on the market, there will always be funds you don't own that will do better. With the benefit of hindsight, it's easy to construct a fantasy portfolio with much better returns that your own portfolio's. But look down the list today and predict the winners for the next year. Pick the five funds that will offer the highest returns in 2011. I've tried it, but the future never works out the way I expect it to. That's why I've been trying to focus on sticking with the basic allocation mix: domestic stocks (small and large cap), international stocks, and bonds. There will be a lot of investors who do better than me, but at least I won't spend a lot of time thinking about this stuff.