The WSJ yesterday presented the personal story of a wsj writer who has altered his investment portfolio in his 401k in light of recent market losses. Parts of it are fairly logical. His portfolio dropped 35% from the fall of 2007 to march 2009 and he reassessed his risk tolerance.
His reaction:
Some couldn't take the brutal drop and sold off all their stocks. Others have shrugged off their losses and are hanging on. Toughing it out could turn out to be very smart if markets continue recovering, as they've done in the past couple of months. But I suspect many will end up like me, pursuing a middle route. I want the higher returns of stocks and the protection they should give my portfolio from inflation, over time. But I don't ever again want to feel as I did on March 9.
Now that makes sense, if one realizes that his risk tolerance is not as high as it seemed. It makes sense to dial down the risk. But here is what I find puzzling. He writes that his portfolio 50% stocks and 50% bonds yet his portfolio declined in value 35% during a period when the s+p 500 fell around 50% (you can even use the global equity number of -60%) which he uses. In any case it is clear that he lost money on the bond portion of his portfolio as well and curiously he writes.
My company retirement accounts, despite what I thought was a relatively conservative mix, were down close to 35% in early March from the fall of 2007....
It didn't play out that way this past time. The drop was quicker, steeper and much more widespread. I had a quarter of my money in foreign stocks, which, because of the falling dollar, were crunched worse than domestic stocks. I had another quarter of my money in inflation-protected Treasurys, which also got hammered.
Something seems quite amiss in this reporter's understanding of his own portfolio.
Inflation protected bonds at least in the instruments I use for my clients etfs or the Vanguard Inflation Protected Securiityes Fund (VIPSX) did nothing close to "getting hammered" over the period mentioned vanguard fund measured fell around 4%, the etf (without counting dividends) fell 7%. And as you can see from the lower of the two graphs at the top of this post comparing the vanguard inflation protected securities fund (vipsx) vs. the s+p 500 (spy) and developed international stocks (efa) the tips did exactly what they were meant to do in lowering the risk of a portfolio otherwise invested in US stocks. Which leads one to believe that either 1. there was some error in reporting of the portfolio’s performance or 2. the fund in the firms 401k that was supposed to be investing in tips was not really doing so.
The chart at top is the vanguard inflation protected fund vs. sp 500 and developed intlernational etf (efa) As they say a picture is worth a thousand words and to argue the the tips "got hammered" just like the stocks is simply wrong
Furthermore it is unclear what the author did with the rest of his bond investments, but clearly he had losses. It seems quite likely he made the mistake many investors make especially in their 401ks. Simply choosing a bond fund (or even a bond etf) does not at all guarantee that it will serve as a stable anchor during a period of extreme market instability. As noted in a previous post actively managed bond funds have a whole set of problems related to the managers own strategy. But even among index instruments there is only one category that is sure to provide a safe haven for the investment portfolio: short term government bonds and specifically treasury bills anything of longer maturity or lower credit quality injects risk (credit risk and interest rate risk) into the portfolio. Many investors seem to miss this point and think all combinations of 60% stocks/40% bonds are equal in terms of risk and return. This can be illustrated by the top chart at the top of this post which compares the s+p 500, the investment grade corporate bond etf (lqd) and the short term treasury etf (shy). Even more unfortunate is the many 401k administrators do not understand this point and don’t offer within the investment choices for the plan a simple low risk bond investment vehicle.
It is unfortunate that the WSJ reporter either didn’t understand his 401k allocation or didn’t present it clearly. But it is more important that his way of looking at his bond allocation while incorrect, is not at all unique
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