Value Added


Diversify Even More

Steven Goldberg

Successful investing depends on allocating a big chunk of your money to commodities and real estate securities, as well as to stocks and bonds, argues an asset-allocation guru.



Still agonizing over your losses during the late, unlamented bear market? Get over it -- and from now on vow that you won’t put too much money in U.S. stocks. Or foreign stocks. Or bonds. Or real estate. Or commodities.

Instead, argues asset-allocation guru Roger Gibson, own a broad mix of all those asset classes. Gibson doesn’t believe any investor—even a 30-year old saving for retirement—should invest more than 80% of his or her assets in stocks. Only the youngest and most daring should have more than 70% in them.

What’s more, a significant portion of that “stock” money, Gibson argues, belongs in commodities, and an equally large chunk should go into real estate investment trusts -- high-yielding companies that invest in commercial real estate.

Diversification helped little last year. Says Gibson: “All four equity asset classes, including commodities, got creamed in 2008. There’s risk in markets. Multiple asset-class diversification mitigates risk, but it doesn’t eliminate it.” Adds Gibson: “Bad things can happen, and when everything lines up badly, you get a 2008.”

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Founder of Gibson Capital, in Wexford, Pa., Gibson is the author of a book called Asset Allocation: Balancing Financial Risk. The book, which is influential among investment advisers, was first published in 1990, and the fourth edition was released last year.

Had you followed Gibson’s advice in 2008, you would have done better than those who had all of their money in stocks. That’s because your 30%-plus allocation to bonds would have paid off. Yes, most bonds fell last year, too, but U.S. government bonds actually rose, and other classes of bonds tumbled far less than stocks -- and bounced back more quickly.

The key to Gibson’s approach is to think long term, to act conservatively and to avoid making too many changes in reaction to changing market conditions. “I advocate a strategic approach, meaning that I don’t try to outguess the short-term direction of the markets, which is a very, very hard thing to do,” says Gibson.

You won’t get rich with the 30% or more money you’ve allocated to bonds, especially when yields are in the gutter, as they are now. But bonds provide ballast when other markets are in free fall. “Occasionally, there are prolonged periods of time when bonds do better than stocks,” Gibson says. The past ten years has been one of those periods.

Why go to the bother of investing in commodities and REITs, as well as U.S. and foreign stocks? Because one or two will likely zig while the others may zag. “In only three years since 1972 have all four equity classes simultaneously had below-average returns,” says Gibson. By combining all five asset classes, including bonds, the overall volatility of your portfolio should diminish markedly.

Over the past ten years, not only have REITs and commodities served to reduce the risk in a portfolio, they’ve also trounced stocks. In the ten years through November 20, the Dow Jones Composite All REIT index returned an annualized 9.5% and the Dow Jones UBS Commodity index returned an annualized 6.9%. Meanwhile Standard & Poor’s 500-stock index lost 1.1% annualized -- the worst ten-year period for stocks since the Great Depression.

Think long term. For the typical 50-year-old investing for retirement, Gibson might recommend about 70% in stocks and 30% in bonds. In terms of the overall portfolio, he’d suggest 35% in U.S. stocks, 15% in foreign issues, 10% in REITs (both U.S. and foreign) and 10% in open-end mutual funds that invest in commodities (but not the stocks of commodity producers).

To Gibson, putting a long-term asset-allocation plan into effect is the most important thing an investor can do. The other stuff -- for example, deciding whether to index or use actively managed funds or whether to tinker around the edges with, say, a sector fund as part of the stock allocation -- is just window dressing. And study after study has shown that Gibson is right.

He elaborates: “Warren Buffett says his favorite holding period is forever. People need to look at their portfolio strategically. They need to ask themselves, What would my portfolio look like if I could never change it again? Your progress to your goals should be measured decade by decade. What happens year to year is statistical noise. We have to think more about climate and less about weather.”

Gibson does have opinions about shorter-term issues. For instance, he’s a believer in the concept of the “new normal” -- a phrase coined by Bill Gross, Pimco’s co-chief investment officer, to describe what he predicts will be a multi-year period of below-par economic growth and stock returns in the developed world.

In fact, for the purpose of his computer models, Gibson assumes below-average returns for U.S. stocks, foreign stocks, commodities and REITs over the next 20 years. (But he shies away from calling these assumptions predictions.)

It’s natural for people to embrace conservative approaches after they’ve lost a lot of money. I think Gibson’s approach is overly cautious for most investors. And his return data on commodities and REITs reach back only to 1972 -- too short a period, I think, to draw sweeping conclusions.

But I’ll say this for Gibson: He argued for his brand of broad diversification long before the financial crisis began, he supported it during the worst of the crisis, and he continues to advocate it today. His book is an easy read and provides a coherent way to think about asset allocation -- the most important decision an investor has to make.

Steven T. Goldberg is an investment adviser.



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