The Risks With Fund Investing

Comments on “How to Find Funds Suitable for You,” by Charles Rotblut, CFA, in the February 2024 AAII Journal:

The one thing I did not see was a stronger emphasis on the critical relationship between risk and reward: If you want to earn higher returns you must take on higher risk and you can reduce the amount of risk you take through diversification across asset classes, not by purchasing a bundle of like assets.
—Barry J. from Texas

In discussing risk, one needs to define it. I maintain that my 100% allocation to equities is much less risky in the long run than any portfolio containing bonds. I define risk as the probability of permanent loss of capital. That can also include the probability of attenuated gains over time, since an unnecessarily reduced long-term gain can also be regarded as a destruction of capital. A reasonably diversified portfolio of good equities provides ample protection against permanent losses, provided one stays the course and doesn’t try to time the market. A single low-expense-ratio domestic equity index exchange-traded fund (ETF) can provide such a portfolio.

Also, this article uses volatility as its measure of risk. As Warren Buffett said, “Volatility is far from synonymous with risk. Popular formulas that equate the two terms lead students, investors and CEOs astray.”
—Robert A. from North Carolina

Thoughts on Long-Term Care

Comments on “Informal Care Essential to Narrowing the Long-Term Care Expense Gap,” by Grace Malone, in Dispatches in the February 2024 AAII Journal:

If you are rich, you are on the hook for long-term care if you need it, but you can afford the expense. The poor have no assets and Medicaid pays for their long-term care. The middle class pays for long-term care until they have no assets and then Medicaid takes over the payment. Everyone gets long-term care if needed. The losers are the children of middle-class parents who watch their inheritance go to pay for their parents’ long-term care. Do we really need long-term care reforms to ensure a larger inheritance for middle-class children?
—John L. from New Jersey

I support state efforts to establish Medical Aid in Dying. Check out Compassion & Choices at www.compassionandchoices.org.
—Jean S. from U.S.

Join Our New Community for Beginners

Last month, a new SIG community was created for members to share their investing lessons with those who are just starting out. Go to the AAII Beginner Investor Community to add your thoughts or pick up tips from experienced members.

For 30 years, I invested the limit allowed each year based upon my SEP-IRAs. I would make my investment for each year based on the consensus of many resources (personal finance magazines, articles in publications, advice from major brokerage firms and, yes, AAII). I accrued a diversified portfolio of mutual funds that I guided each year into my asset allocations (60%/30%/10%). The result has been a good return over the years. I slept OK at night even during recessions. By buying and holding my investments with minimal changes, the compounding grew into a very sizable retirement fund.
—Steve H.

What enabled me to start gradually retiring in my early 50s was the long-term outperformance of only four stocks. It was not by design but because these four dominated my returns over decades of applying a buy-and-hold approach. I invested in many other companies that went under or got bought out, languished for years without doing much or grew reasonably well but were simply outpaced by the four.

In the retirement process, I decided to heed the advice from some experts and diversify for the sake of safety. I took one year’s worth of expenses out of the market by selling stocks, buying several low-expense-ratio domestic equity ETFs. Those ETFs have performed quite well but they have come nowhere close to the continued performance of my best four. I lost both the taxes I paid and the significant difference in gains over the past decade. To top it off, the stocks I sold to fund my year of expenses went up by more than 33% the following year and have generally continued upward.

I don’t think I was wrong to diversify, but I think I overdid it. It may have been better to sift through the holdings of those ETFs and pick 10 to 20 good stocks to buy. And I think I was absolutely stupid to take a year’s worth of expenses out of the stock market.
—Rob A.

Small-Cap Performance

Comment on “Returns for Asset Class Groups: Large-Cap Stocks Rebound Back Into the Lead,” by Charles Rotblut, CFA, in Dispatches in the February 2024 AAII Journal:

Greater regulation favors large companies over smaller ones. That may be a factor in their relative performances of late.
—Robert A. from North Carolina