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Review and Giveaway: The Bogleheads’ Guide to Investing: Asset Allocation

by Flexo on October 11, 2006

in Giveaways, Reviews

This is a look at the eighth chapter of The Bogleheads’ Guide to Investing, by Taylor Larimore, Mel Lindauer, and Michael LeBoeuf. This chapter focuses on asset allocation, the “most important portfolio decision.”

The authors start by reviewing empirical research from the 20th century, including the studies that resulted in the development of Efficient Market Theory and Modern Portfolio Theory. The academic studies lead to the realization that most of which Wall Street sells is overpriced, index funds provide higher returns with less risk than managed funds, and there is no way to “beat the market” despite all Wall Street’s promises. Academics do not have the money to advertise, and thus their opinions aren’t popularized.

Most of a portfolio’s long term performance depends on the focus on a “strategic asset allocation policy.” One of these policies can be developed by evaluating an individual’s answers to four questions:

* What are your goals?
* What are your time frames?
* What is your risk tolerance?
* What is your personal financial situation?

Answers to these questions allow the investor to decide how to allocate his or her funds between various sock types (large cap, small cap, value, growth, international, and others like REITs) and various bond types (short-term, high-yield, inflation-protected, etc.).

The authors also provide eight different model portfolios for four different categories of investor (young, middle-aged, early retirement, and late retirement) with a focus on low-cost index funds from Vanguard.

The chapter is fairly short and manages to lightly touch the important aspects of asset allocation. An entire book can be written on the topic, though I’m sure only a few would be interested in reading it. The chapter covers the basics and is enough to inspire someone to evaluate their own asset allocation, as I did last night. Hopefully the taste of the chapter I provided whets your appetite for the entire chapter, which is unsurprisingly available within the book.

And now for this week’s giveaway! Here’s a discussion question for you to respond below (or just write any comment you feel like). How much thought have you put into your asset allocation strategy and how did you decide upon your choice? For example, did you use a certain “rule of thumb” that dictates your percentage of bonds should be your age?

A random winner will receive a copy (my copy) of The Bogleheads’ Guide to Investing and another copy of Elliott Wave Principle: Key to Market Behavior, by A.J. Frost. Both books are hardcover and in perfect condition. By the way, if you’re a “long time reader, first time commenter,” say so, and you’ll get two entries in the contest for the “price” of one.

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About the Author

Flexo, the owner and creator of Consumerism Commentary, has been blogging and writing for the internet since 1995 and has been building online communities since 1991. Find out more about him and follow him on Twitter.

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  • Matt
    I did a lot of research on AA by reading the buy & hold articles at www.fundadvice.com. Although he's selling stuff on the front page, the articles are pretty good!

    Thanks for the great review! This is my first comment, too!
  • Asset allocation is taking responsibility for yourself.
    There is help by way of a thumb rule for the dumbest of all who don't know to decide for themselves. For equity allocation, you should invest (100 - your age) % of your investments. That is if you are 30 years old, you should invest 70% in equities.
    Btw, I like yr well researched blogs.
  • triple-e
    First time reader and first time commenter...

    I spend far too little time on Asset Allocation. In my 401k there are relatively few choices, but even then, I don't spend more than 10 minutes reviewing the assets in a given category to make my choice. I do keep looking for good advice on the topic, and this entry has encouraged me to look a little closer at things. Thanks!
  • Rugby
    I took a good long hard look at my asset allocation after reading Malkeil's "A Random Walk Down Wall Street", and heading his advice.

    He talks about Four main Asset Allocation Principles:

    1. Risk and Reward Are Related

    2. Your Actual Risk in Stock and Bond
    Investing Depends on the Length of Time
    You Hold Your Investment

    3. Dollar-Cost Averaging Can Reduce the
    Risks of Investing in Stocks and Bonds

    4. The Risks You Can Afford to Take
    Depend on Your Total Financial Situation

    Good stuff!

    PS. "Long time reader, first time commenter" :-) Thanks for the great PF blog.
  • Danielle
    First time commenter here!! Would love to receive a copy of the Boggleheads Guide. I just found JP's site and now yours. What great resources!! Thanks for all your help and great advice.

    Sincerely,
    Danielle
  • Meaghan
    I have put a great deal of thought into my asset allocation- much more than I need to at this stage, in fact! I believe the two primary things that made me settle on my allocation were the Vanguard investor questionnaire and the asset allocation articles in the 'learning' section of Morningstar.com.

    For my stock/bond allocation I decided on my age-20 in bonds (based on the fact that I have a high risk tolerance and very long (40+ years) time frame until retirement.) I also consider that since I am female, my life expectancy is projected to be longer than the average male investor.

    Unfortunately, I don't have access to a 401(k) at work, and my Roth IRA doesn't as yet have enough money in it to allocate my assets the way I want. Currently it's all in a domestic stock index, which I invested in before Vanguard raised minimums to $3000 per fund. When it hits $3000 (soon!), I intend to switch to the target retirement 2050 fund, which, though not quite aligned with my target AA, will get me closer than a single stock fund.

    And no, I really don't have a lot saved; currently I'm 24 and paying off some credit card debt. Just in case you're wondering how someone spends so much time on their asset allocation and has less than $3000 in retirement accounts!

    Oh, and please do not enter me in the giveaway- I already have a copy of the Bogleheads' guide and would prefer for someone else to have the chance to read this excellent book!
  • Cleophus
    Been reading for a couple of months -- first comment, though!

    My asset allocation "strategy" comes from reading various articles from Consumer Reports, Morningstar, Jane Bryant Quinn's latest book and occasional articles/blogs found on the 'net. Taking these pieces of advice into mind, my strategy is a bit more aggressive than that advice would recommend: I'm 36 years old, and have 40% in US stock index, 40% in int'l stock index, 10% in a REIT index, 5% in TIPS and 5% in UC bond index.
  • mattc
    first time here, and first comment (well, obviously..)

    The only thought I've given to asset allocation so far was in picking funds for a 401k, at a company I'm no longer with. I kind of picked randomly, a couple with "stability" synonyms in the name and a couple more with "growth" in the name. It's all still sitting there, a couple of years after I left the company, and the funds are doing fairly well. At this point, I'm looking around realizing I need to learn a lot more..
  • I created my asset allocation strategy while reading Bernstein's book The Four Pillars of Investing. Unfortunately, I did it while in the middle of the book, rather than at the end. Overall, it was an equities only portfolio due to retirement investments in lifecycle funds including bonds.
    I am now completely redoing my asset allocation and will share when done. I have hired a professional investment advisor to help. The area of bgreatest discomfort for me is Bond varients.
    REgards,
    makingourway
  • Geoff
    I keep my 401k about 88% eguities and 12% bonds. I have 100% of my Roth in equities. I need to break the equities down further and rebalance in the future though, I am more waited in US Large Caps, only getting into International funds in the last 18 months.
  • Cathy
    I have an equites only portfolio for now. I plan to give some serious thought to it and reallocate it.

    PS. "Long time reader, first time commenter" ;-) Thanks for the great blog !!
  • I decided to go with all stocks after reading on the Vanguard.com website that they recommend young people to have most of their money in stocks instead of bonds. They actually recommended 80%-20% stocks-bonds and it WAS that for quite a bit of time but I wanted to be a little more "risky". Recently, I sold my dying bonds for some more index fund shares.

    0% bonds baby.
  • I can't remember when I first learned about asset allocation and portfolio rebalancing. I probably learned it first at Wharton while I was an intern making photocopies of presentations on these topics. Then I read my 403b materials when I first was offered a plan.

    From all of those risk tolerance quizzes in 401k retirement materials, I settled into 80+% stocks in my portfolio, if not 90%, because I have a high tolerance for risk since I'm still under 35. I'm happy to take the risks now but I know I'll start moving to a 65-70% mix in a few short years.

    I don't think about it too much since it could easily turn into something I fret about all the time. Instead, I look at it every few weeks, mostly just to make sure I get my numbers right in Quicken to prepare my net worth graph.
  • Emily
    I am pretty much allocation-less. My company puts 10% of my salary into a "company retirement plan" that is kept at Vanguard. I think there are 8-10 funds to choose from. All of my account is in the "stable value fund." The main reason I haven't bought any other funds is because I'm not sure how. I need to call Vanguard and see if they have classes or somebody who can teach me how to do this. Or maybe they have a test account where I can practice with fake money. I know there are rules, like when you sell something you can't buy it again for x days, but I'm not sure what all the rules are.

    I also have a Roth IRA. I put the full amount allowed in it each year. It is currently in a 5% CD at my credit union. I would like to put it in stocks, but it is not very much (
  • Emily
    Hmmm, it appears this web site doesn't like the "less than" sign.

    Here's the rest of my comment:

    ...but it is not very much (less than $25k), and I've heard you need more to buy stocks.

    I'm very good at saving money -- I currently spend $15k per year and save $25k per year. So far my strategy has been "save as much as I can." But I guess I need to add investing to that strategy, especially since I'm getting older (32 yo).
  • G.
    Occasional reader and sporadic commenter. I allocate my 401k into two different mutual funds, one is a low-risk large growth fund %50 and the other is a other is a foreign diversified fund %50
  • paulob
    I have a 100% stock allocation. I haven't really put a lot of time into it. The main driver is that the investment time horizon is very long.

    Paul
  • Since I haven't been investing very long, and all my money is in TIAA-CREF which only has 8 or 9 options, I put a TINY LITTLE BIT in bonds (like 2%) and spread the rest around, although about 50% is going towards their S&P 500 equivalent right now. The rest is going into international funds, growth stocks, a bit into real estate. I own a smidgen of all 9, I believe. =)
  • Dan
    First time commenter here.

    I have to agree that everything I've read suggests that statistical analysis heavily favors index funds. I can't remember where I read this, but supposely mtual funds that beat the market average the are twice as likely to underperform the following year.

    I'm pretty young and 100% of my 401k is in stocks.
  • Sumit
    Long time reader, first time commenter

    I chose the easy way. Just chose one of Vanguard's target retirment (TR) funds and keep investing a fixed amount into it every month. Why TR funds? They have the lowest cost and give a decent mix. Unfortunately, 100% stock index funds are higher cost for the tiny amount of money that I started with.
  • Melissa
    First time reader and first time commentor -- on any blog!

    All I have is a TIAA-CREF account and thinking of just putting savings designation there. Would like to read the above mentioned books for more insight!
  • TBH
    My asset allocation was very haphazard for many years, but I did rebalance in Spring of 06. How did I do my research? I asked for help on my blog. JLP and Barry Barnitz and a few others gave me some great advice. I also trolled PF blogs and various other websites looking for sample portfolios.

    I came up with this allocation as a goal for my Roth:

    25% large cap
    15% mid cap
    15% small cap
    25% international
    10% emerging markets
    10% bond

    But since my account is still too small to give me the minimums in all these funds, I currently have something that looks like this:

    25% large cap
    16.5% mid cap
    16.5% small cap
    25% int'l
    16.5% bonds

    I ended up being glad I didn't have enough $$ to put into an emerging markets fund because that sector took a nosedive a couple weeks after I rebalanced. I still like the idea of investing in that sector but I'm not sure I have the stomach for it. I might just up my allocations in regular int'l and US small cap instead of putting that 10% in emerging markets.

    My biggest challenge is that I have too many accounts (you don't even want to know how many) which makes it hard to look at my allocations across all accounts, and makes it hard to meet investment minimums.

    Good post. Sheesh, this was a long comment. Sorry 'bout that. I'm sure you already gave away the books, but don't include me if you didn't. I'm doing my Bogleheads review tomorrow.

    Oh, BTW, I'm 29 with somewhere between moderate and high risk tolerance. I have a penchant for SRI funds which lowers my returns, but lets me sleep at night.
  • It's too bad simplicity is so unexciting. I think people like to hear the cool new thing they can do with their money. I for one am relieved that I can put money into simply managed accounts and leave it. I keep some outside of that to play with other investments. Here's my take on Asset Allocation, part of the Bogleheads Series at Successful Personal Finance.com.
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