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ARTICLE: Outperforming the S&P 500
In 1986, a prestigious pension consulting
firm released a research report that analyzed the three primary
investment strategies that determine portfolio performance. The
first two were: market timing and security selection. The third
was multi-asset class allocation. The report demonstrated that
the first two combined accounted for less than 10 percent of portfolio
performance. Multi-asset class allocation was the strategy which
accounted for over 90 percent of the portfolio performance. Today,
most investors still base most of their investment decisions on
market timing and security selection. They have been led to believe
that brokers, financial advisors, or some other expert can 'out-pick'
or 'out-time' the market. Wall Street firms spend billions of
dollars annually trying to 'out-pick' or 'out-time' the market,
or at least trying to convince you that they can - or worse, that
you can. A recent Vanguard study found that over 85 percent of
the equity mutual funds studied did not beat the most popular
stock market index, the S&P 500 Index.
Based on more than 50 years of investment
research, I will argue that investors who carefully use a multi
asset class portfolio of between 8 and 10 specific asset classes
can, over time, achieve higher returns than the market without
taking any additional risk. And in many cases they can do this
at less risk than that of the S&P 500 Index. At Capital Wealth
Management, our firms "Ultimate Asset Allocation Portfolio"
divides the world's stock markets into a globally diversified
portfolio of nine broad asset classes, four domestic and five
international.
Below, is a table showing year-by-year
results of a Global Portfolio, compared with those of the Standard
& Poor's 500 Index. Each half of the Global portfolio includes
roughly equal measures of the same nine equity asset class investments
as the "Ultimate Asset Allocation Portfolio." Over the
last seven years the asset mix of the Global Portfolio outperformed
the S&P 500 every year by an average of eight percent. Over
the 36 year period from 1970-2005, the Global Portfolio outperformed
the S&P 500 in 23 of those years, with an average advantage
of 3 percent per year. That difference compounded a $100,000 investment
in the S&P 500 to $440,390 compared to $1.2 million for the
Global Portfolio.
|
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Percentage
Returns
|
Growth
of$10,000
|
|
Yr.
|
S&P
500
|
*Global
|
S&P
500
|
Global
|
|
1970
|
4.0%
|
-2.5%
|
$10,400
|
$
9,750
|
|
1971
|
14.3
|
36.6
|
11,890
|
13,320
|
|
1972
|
19.0
|
31.7
|
14,150
|
17,540
|
|
1793
|
-14.7
|
-19.9
|
12,070
|
14,050
|
|
1974
|
-26.5
|
-27.6
|
8,870
|
10,170
|
|
1975
|
37.2
|
52.7
|
12,170
|
15,530
|
|
1976
|
23.8
|
24.2
|
15,060
|
19,290
|
|
1977
|
-7.2
|
29.9
|
13,980
|
25,060
|
|
1978
|
6.6
|
32.4
|
14,900
|
33,180
|
|
1979
|
18.4
|
14.3
|
17,640
|
37,920
|
|
1980
|
32.4
|
30.2
|
23,360
|
49,380
|
|
1981
|
-4.9
|
1.9
|
22,220
|
50,320
|
|
1982
|
21.4
|
14.3
|
26,970
|
57,510
|
|
1983
|
22.5
|
30.5
|
33,040
|
75,050
|
|
1984
|
6.3
|
6.5
|
35,120
|
79,930
|
|
1985
|
32.2
|
43.4
|
46,430
|
114,620
|
|
1986
|
18.5
|
34.8
|
55,020
|
154,510
|
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1987
|
5.2
|
22.0
|
57,880
|
188,500
|
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1988
|
16.8
|
26.4
|
67,600
|
238,260
|
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1989
|
31.5
|
31.7
|
88,900
|
312,360
|
|
1990
|
-3.2
|
-14.4
|
86,050
|
267,380
|
|
1991
|
30.5
|
27.2
|
112,300
|
340,110
|
|
1992
|
7.7
|
3.9
|
120,940
|
353,370
|
|
1993
|
10.0
|
31.1
|
133,040
|
463,270
|
|
1994
|
1.3
|
2.9
|
134,770
|
476,710
|
|
1995
|
37.4
|
18.7
|
185,170
|
565,850
|
|
1996
|
23.0
|
12.7
|
227,760
|
637,710
|
|
1997
|
33.2
|
5.5
|
303,380
|
672,790
|
|
1998
|
28.6
|
6.3
|
390,140
|
715,170
|
|
1999
|
21.0
|
22.9
|
472,080
|
878,950
|
|
2000
|
-9.1
|
-4.8
|
429,120
|
836,760
|
|
2001
|
-11.9
|
-8.7
|
378,050
|
737,180
|
|
2002
|
-22.1
|
-14.5
|
294,500
|
630,290
|
|
2003
|
28.7
|
42.4
|
379,020
|
897,530
|
|
2004
|
10.9
|
20.8
|
420,340
|
1,084,220
|
|
2005
|
4.9
|
13.9
|
440,930
|
1,234,930
|
|
Avg.
Return
|
11.1%
|
14.2%
|
|
|
*Consists
of: 12.5% each: US large, US large value, US small, US small
value; 10% each: Int'l large, Int'l large value, Int'l small,
Int'l small value, emerging markets. Source: Dimensional Fund
Advisors
For investors concerned primarily with
maximizing returns or outperforming the market, there is a meaningful
and disciplined approach to building a portfolio in a professional
manner. There are however two challenges to this approach. The
first is that a person must recognize that it is not mainstream
investing. Ask yourself how often the talking heads on TV, radio,
or in print tell you how "a well-balanced, global asset class
portfolio performed today." What you hear is how the "S&P",
"the Dow," or "NASDAQ" performed for the day,
week, or year. The second is that in the short term, one must
be willing to accept that every portfolio will be "wrong"
a great deal of the time. At the end of each period, with the
benefit of hindsight, we will wish that we had been more or less
committed to each asset class. For instance, we might have wished
we had more in value stocks in a year when value performed very
well, or more in small cap growth stocks in a year when large
cap value did poorly. We will just have to accept this in order
to be right "for the long term."
Copyright (c) 2006, Capital
Wealth Management. All Rights Reserved.
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