Revisiting the debate over Yale's investing guru, David Swensen

Posted by: Aaron Pressman on June 17, 2009

Back in mid-March, I came across a link to an interview with David Swensen, chief investment officer for Yale University’s endowment and author of the 2005 book Unconventional Success: A Fundamental Approach to Personal Investment. Swensen has a phenomenal record running the Yale endowment and pioneered the use of hedge funds, private equity and a wide array of other alternative investments among institutional investors.

But his book offers a very different approach for individuals, who don’t have access to most of the investment managers used by Yale. Instead, Swensen recommended that individuals allocate their assets across a simple and fixed mix of six index funds (30% in U.S. stocks, 20% in real estate, 15% in U.S. Treasury bonds, 15% in U.S. Treasury Inflation Protected Securities, 15% in foreign, developed stocks and 5% emerging market stocks). Beyond occasional rebalancing, Swensen’s formula was fixed, unchanging and perfect for all. It seemed like the magic formula for investing success, according to Swensen.

One particular out-to-lunch passage struck me from the March interview, when Swensen asserted that someone following his magic formula “probably did reasonably well” through the recent credit crunch and market turmoil. That wasn’t true. The magic formula lost fully one-third of its value over the prior year, nearly as bad as the loss of the S&P 500 by itself and certainly not what people following Swensen’s advice (or reading his quote in the interview) would have expected. And so I posted my critique here.

The post has received a number of comments, most quite critical of my analysis. I posted a reply in the comments field today but I thought it was worth expanding my reply into a full-blown blog post to further the discussion.

[UPDATE: I asked Swensen if he would comment. He sent a reply that he did not want published. Needless to say, he doesn’t agree with me.]

First, I think it’s important to acknowledge that there's a huge (and misleading) disconnect between how Swensen ran the Yale endowment to produce such amazing results and the magic formula he recommended for ordinary investors. Yale uses active managers, has nothing like 30% of its assets in US stocks (or any such fixed asset allocations at all) and relies on a wide array of alternative assets, many of which aren't easily accessed by individuals. Plenty of investors turned on by Yale's results looked to Swensen for advice but the advice they received has no connection to the endowment's superior results. Those commenters who cite Swensen's Yale track record as evidence that his magic formula is a good idea have fallen into the same trap. “Swensen Fan,” for example, quotes Swensen mixing Yale’s results and the book’s formula.

Until he wrote a book for individual investors, Swensen regularly admitted that individual investors could not follow Yale's investing program. I suspect he got tired of giving that non-answer and, to paraphrase Woody Allen in the great flick "Manhattan," let's face it, he wanted to sell some books here. And there’s really not much offered to support the magic formula’s particular allocations beyond considerations of how those kinds of assets have performed in the past.

Second, commenters like “MSS,” “Stu” and “Finn” say one year is too short a time frame to evaluate how the magic formula has done. “Ignorance Arbitrage” says it’s singularly idiotic. But the point isn’t to assess Swensen’s formula over one-year periods. Swensen himself had misstated the performance of the recent formula (without even getting into how long it would take to earn back a 32% loss). It’s critical to assess how an investment strategy performs in all kinds of markets. Swensen’s seemingly conservative strategy worked fine under “normal” market conditions but failed miserably in the bear market. We’ve also just experienced a 30-year or so trend of declining long-term interest rates and inflation in the U.S. that gave a nice tailwind to certain assets. An asset mix constructed based on returns and volatility during that period might not work so well if the next 30 years see a very different interest rate backdrop.

[UPDATE 6/18/09: Running the results of the six-fund magic formula over longer periods doesn't help Swensen's case much. If you invested $10,000 in the magic formula at the beginning of 2005, when the book came out, how much would you have 4-1/2 years later on May 31, 2009 with annual rebalancing? $10,275. That's worse than if you'd kept the whole sum in T-bills or a money market fund and virtually identical to the $10,268 you'd have investing a BENCHMARK EXAMPLE of 70% U.S. Stocks and 30% U.S. Treasuries.]

Third, commenters Lawrence Weinman and “Finn” criticize asset allocations I supposedly recommended in the post. I didn’t actually recommend any strategy, offering the performance of a simpler mix for context. We do write about that topic frequently in Businessweek and on the blog, though. Check out this post about Mebane Faber or this one looking at age-appropriate portfolio designs, for a few examples. And I recently wrote a magazine article looking at the pro’s and con’s of asset allocation funds. There are also many great blogs that cover the subject like CXO Advisory, Bespoke Investment Group and Interlake Capital.

Finally, commenter "Finn" make reference to modern portfolio theory, the efficient frontier and the benefits of diversification. These are excellent theories but they're constructed on top of numerous simplifying assumptions about how the world works. I'd suggest taking a look at some of the more recent research about how MPT has failed of late. Particularly, see what Nassim Nicholas Taleb has said. Here's a quote from a recent interview with Taleb (free registration required):

The field of statistics is based on something called the law of large numbers: as you increase your sample size, no single observation is going to hurt you. Sometimes that works. But the rules are based on classes of distribution that don’t always hold in our world.

All statistics come from games. But our world doesn’t resemble games. We don’t have dice that can deliver. Instead of dice with one through six, the real world can have one through five—and then a trillion. The real world can do that. In the 1920s, the German mark went from three marks to a dollar to three trillion to a dollar in no time.

That’s why portfolio theory simply doesn’t work. It uses metrics like variance to describe risk, while most real risk comes from a single observation, so variance is a volatility that doesn’t really describe the risk. It’s very foolish to use variance.

The comments are open for further debate!

Reader Comments

Sven

June 18, 2009 2:16 AM

Wow! It is truly heartening to hear a voice of clarity about MPT, the EF and simplifying assumptions. The fact is that Mr. Taleb is not the only highly respected academic (and super-successful market participant) to point this out. Recent research at the University of Chicago shows that individual investors do not lag in performance because they are ignorant of financial theory nor do fail because they are emotional. The poor returns they earn come precisely because they are on auto-pilot. If that isn't enough for you, try reading Warren Buffet's biography, "The Snowball." He's been saying the same thing for years.

Has anyone ever stopped to wonder why some of the most vocal advocates of indexing and passive investing as "winning strategies" for individuals are so heavily invested in hedge funds and other active methods of arbitrage? I am not accusing anyone of malfeasance but such behavior has the effect of shining the headlights at a deer right before running it over. Think about it. The only reason a market would be efficient is because people are looking for arbitrage opportunities and snapping them up quickly. When more people assume the market is efficient, they will blindly ignore arbitrage opportunities, thus leaving those profits to those willing to search for them. At the end of the day, who's going home with the meat?

The fact is that there is no shortcut to success in any endeavor, certainly not investing. Another fact is that there are a large number of alternative modeling methods that don't rely on statistical assumptions to derive their viability. Amazingly, some of these methods actually classify "risk" as a loss of principal. What a novel idea!

The Chicago research can be found in their free newsletter here: http://www.chicagobooth.edu/capideas/oct07/4.aspx

Anna

June 18, 2009 3:52 PM

Isn't Swensen's "Unconventional Success" book mainly a critique of the conflicts of interest in the mutual fund industry? I learned a lot about how stacked most MFs are against the little investor. I really thought his book was incredibly valuable.

I never thought I'd be able to duplicate his returns with the Yale fund by reading this book. He invests in a tax-free environment!!

Sven

June 18, 2009 8:10 PM

Swensen does invest in a tax-free environment. As far as investing returns go, individual investors can easily duplicate that part by doing their investing within a qualified plan like a 401(k), IRA, etc.

It is true that Swensen points out several conflicts of interest in the mutual fund industry. He also pointed out huge problems with corporate and municipal bonds. Those are valuable insights.

Why, then, did his recommendations perform so poorly? And why did he not even seem to know about their abysmal performance in the interview? It seems to me that he simply threw the recommendations together ad hoc using the assumptions of MPT and the Capital Asset Pricing Model (CAPM). Assumptions which are quickly being deconstructed by market players and academics alike.

From my standpoint, the criticism is aimed at the assumptions that he used to create the portfolio and not at the man himself.

Fiore

June 19, 2009 10:09 AM

I urge you think read this article on Taleb. http://bit.ly/405PYN

essentially we have anointed taleb a genius b/c he was right when many others were wrong. give him credit, but what about all the years when he was wrong?

finally, we spend so much time and energy trying to find the magic investing formula. The real key is to save as much as you can and invest in a low fee structure. spend your time developing your brain power and your career so you can earn more.

A magic pill does not exist, especially over the long run

Mike

June 20, 2009 4:48 AM

For individuals, the trick is avoid what everyone else is doing.

dblwyo

June 20, 2009 12:54 PM

Aaron - actually Swensen does agree with you. There's an excellent 2-part interview online at Conseula Mack's WealthTrack show with Swensen, one of the few (only ?) he's given in which he reviews his theories and practices. He also explicitly states and repeats that the individual investor doesn't have access to the alternative assets that a large investor does and so he came up with a 2nd best alternative. He also argues that we've just gone thru a major disequilibrium (one of three in the last several decades) in which a top-down macro approach was more suited but after we re-stabilize thinks he's methods will return. I'd argue that he's partly right but he's invested only during the Great Moderation of secular inflation declines and financial de-regulation with all it's leverage and low-risk. The world is NOT going to look the same going forward and it's not clear that Mr. Swensen has completely re-thought his parameters or his model; or at least isn't discussing it with us.

Scott Berglund

June 20, 2009 2:54 PM

Aaron,

You might want to check your figures for Swensen's recommended portfolio for 2008. Using Morningstar data, I calculate that this portfolio lost 22.69% last year. This result is in line with, and in some cases even better than various balanced or moderate risk benchmarks. For example, the average fund in Morningstar's Moderate Allocation category declined 28.01% in 2008. BTW, the Swensen portfolio can be improved by adding allocations to commodities, small cap US and foreign equities, and international bonds. Also, since US stocks now only represent less than half of the total value of world equities, it makes no sense to overweight US versus foreign stocks as Swensen suggests.

Aaron Pressman

June 20, 2009 3:16 PM

Scott - thanks for the comment. No where here have I cited the Swensen formula's 2008 performance. The initial post looked at the one-year performance as of the date of that post (mid-March), which (at least so far) is looking like the market bottom.

When I did the spreadsheet the other day looking at the almost-five-year performance since the book's publication date, I ended up with annual returns of +9% for 2005, +17% for 2006, +5% for 2007, -23% for 2008 and 0% for 2009 thru 5/31 (all numbers rounded to nearest whole percentage point). The particular ETFs were IWV, TLT, TIP, EEM, IYR and EFA.

I think the question of the relevant benchmark to use is a really good one. Swensen and many advisors favor avoiding mutual funds and using cheaper index-based ETFs. That's why in the post, I compared the performance to a simple ETF mix as a benchmark. Your point on other asset classes is well-taken.

Scott Berglund

June 20, 2009 6:27 PM

Aaron - My mistake. Good article, and very fair criticism of Swensen.

JP

June 20, 2009 10:25 PM

I want you to write negatively about him when Yale's endowment starts returning near 20% a year again not just the 1 shaky year when everything collapsed. I'm sure that Yale is not going to be firing him anytime soon and the model which Mr. Taleb is bashing has worked (Demolished S&P500 returns) for years.

This is like saying Kobe Bryant sucks the night he missed a game winner in the NBA Championship and then he ends up with a ring a couple games later.

Mr. Faber's model (by the way your link doesn't work - this does - http://seekingalpha.com/article/45423-harvard-yale-endowment-performance-versus-the-buy-and-hold-and-timing-approaches) can now be duplicated with 2X leveraged ETF's and that portfolio beats Yale's when back tested.

Toni Smith

June 21, 2009 8:01 AM

I like this article. I supposed it is a fact story.

autism

American in Paris

June 23, 2009 1:37 PM

You folks have naive expectations. No portfolio other than 100% cash would have prevented large losses last year. Correlations between most major asset classes were close to one. Trying to beat the market was widely discredited years ago. You buy index funds and ETFs based on their global capitalization and divide your portfolio between stocks, fixed income securities, commodities, and real estate according to your risk tolerance and your age.

You need to use the longest possible data range when assessing portfolios. Take the last 100 or 50 years, not five or ten years. There is too much noise in short periods to draw conclusions. Otherwise you allow events like 2008 to influence your thinking too much.

And by the way, Taleb is not a genuis. Most of the points made in Black Swan were well known to most statisticians such as myself.

Trying to build a long term investment plan around avoiding the 2008 losses is sheer folly.

Aaron Pressman

June 23, 2009 1:53 PM

Rod, Businessweek reporter and blogger Aaron Pressman here.

Thanks for your comments. But I don't think many would agree that the correct analytical approach to investing is to throw up one's hands and conclude that every strategy lost money over the last year and stop there. For one, Faber's did not. Further, the addition of asset classes Swensen excludes but others include (like gold) would have improved returns. Or look at an asset allocation fund like First Eagle Global (SGENX) which has a substantially better record over that past five-ish year span I cited above than Swensen's formula.

The point that cash would have lost money because of taxes and inflation applies to any strategy. The return of Swensen's magic formula would have been even lower if you adjusted for inflation, taxes on the interest and dividends from the ETFs etc.

American in Paris

June 23, 2009 2:41 PM

Aaron,

You are completely distorting what I wrote.

I take it as a given that the likilihood of most investors beating the market is nil. So I believe the best strategy is strictly passive. You buy the Market and hold. That means diversifying as much as possible at the lowest cost. The Market is the universe of available financial assets. Global. Not Indiana or the States.

And yes, I believe the only portfolios that would not have lost money are probably the result of data mining. A broadely diversified portfolio would either have to include either puts or inverse funds to protect against the 2008 downside. Permanently protecting your portfolios through puts or inverse funds is going to be very expensive and will significantly reduce your long term returns. And inverse funds track poorly.

It is not "throwing up your hands" to acknowledge that every major asset class fell dramatically in 2008.

As for SGENX, it is an actively managed fund. So a good bet is that its returns will mean revert to the market or worse over the long run. Most actively managed funds do worse than the market on a risk and cost adjusted basis. Even Warren Buffet says that index funds are the intelligent choice for households.

By the way, if you really understand statistics, you know that five years of financial performance is statistically insignificant. In fact, that is a point made by Mr. Black Swan.

Five years is noise. A lucky monkey could do as well.

And by the way, that fund is extremely expensive. It has an expense ratio over 1% and a five percent load!

And since this fund is actively managed and not transparent, who knows how well diversified it is?

You will be much better simply investing in the Vanguard World Stock ETF with zero load and a cost ration under .5%.

Transparency. Low cost. Excellent diversification.

By the way, anyone claiming about 2008 ruining their retirement plans is really saying that they had too much in stock. Anyone near retirment should keep a majority of their assets in fixed income.

Aaron Pressman

June 24, 2009 10:24 AM

Rod,

We obviously have a disagreement about whose writing is being misrepresented. You stated it was "sheer folly" to avoid the 2008 losses. I was writing about whether Swensen's magic formula truly is the best, one-size-fits-all approach versus other possible approaches, including those that are even more diversified, still using index funds. No one said the goal was to completely avoid the 2008 losses, but the relative performance of different strategies in turbulent markets is a valid point of analysis.

In your latest reponse, you suggest a passive, broadly diversified strategy is best. But just what does that mean? Asset allocation decisions are active decisions, whether made using index funds or other investment products. Should a "passive" mix have 20% in US stocks, 25%? 35%? Swensen's formula is one man's judgement about the best use of passive funds as part of a broadly diversified strategy.

I'm suggesting that 1. The magic formula may not be the best broadly diversified strategy using passive index funds and 2. Recent events call into question whether such a strategy is really as winning as many thought pre-2008. I think both debates are worth having.

p.s. That First Eagle fund has returned an average of 13.6% annually since it opened in 1979, a 30-year history, after deducting fees and loads. That's about four times the performance of the MSCI World Index over the same period.

Erica

June 26, 2009 11:25 AM

If universities had placed our hard-earned-tuition in money-market or UST, we would have a far better return and fewer losses that these funds of funds, e.g.,

http://www.commonfund.org/Templates/Generic/RESOURCE_REQUEST/target.pdf?RES_GUID=01ECAF7D-EFE8-464B-B32B-74258ADE6201

June

June 26, 2009 3:10 PM

The issue is, is there a real rationale for the investment model - yes - we get it that 2008 was a bummer year - or is there another methodology that should be employed. While 'portfolio theory' and large numbers of assets works in a diversified strategy - when there is a market meltdown the entire portfolio melts. A sinking tide lowers all boats.

The point is that parents (me) spend gobs of money to support their kids in schools and many are either using funds of funds (what logic is that) as money market funds or hoping that endowment funds will deter the 3.8% annual tuition increase.

This stuff is important and if the fund manager relies more on statistical rather than fundamental credit analysis - they are likely to lose money - for the school, students and parents.

http://www.commonfund.org/Templates/Generic/RESOURCE_REQUEST/target.pdf?RES_GUID=01ECAF7D-EFE8-464B-B32B-74258ADE6201

BM

July 9, 2009 9:49 PM

Does anyone know how Swensen did in 2008, and in 2009?

after this Depression, we may find he's no person to listen to, at all!

David

July 16, 2009 11:44 AM

I am invested through a 403B with average risk but high fees. I am also fully funding a Roth with Vanguard's 2020 fund. Due to a divorce settlement, I am trying to rebuild my retirement, so am living very frugally & have some additional funds to invest. I have a 10-15 year time horizon. Would it be best to just add the extra into the 403B or to invest in an Index mix with such as Vanguard & what division would you suggest? I have been reading & reading & reading but no clear concensus is forming. Any guidance would be appreciated. Thanks in advance for your kind response!

ignorance arbitrage

July 23, 2009 1:52 PM

regarding your posts and reply (a copy is also available on my blog ignorancearbitrage.blogspot.com)...

In your original post your methodology was, in fact, singularly idiotic. It still is. To wit, "That beats the S&P 500, but it’s much worse than a simple mix of say 70% U.S. stocks and 30% bonds, which lost only 25%. A 60/40 mix dropped 19%.

And a year-end rebalancing wouldn’t have helped — at least not yet. If you set Swensen’s allocations up at the beginning of 2008 (and lost 23%) and then rebalanced at the beginning of 2009, you’d be down 17% so far this year. But if you let your winners ride, so to speak, and went with the portfolio as it stood, you’d only be down 12%." Your method was entirely short-term and short-sighted. Your follow up doesn't address that or admit responsibility for that.

I am heartened that you indicated the shortfalls of your perspective by broadening your horizon to a whopping 4 and a half years. Especially since the year you chose represents a peak in REITs, one of the diversified asset classes.

Why not provide us with 5, 10, 15 year comparisons of Swensen's approach? Probably because they don't support your arguments (neither does picking out the best performing mutual fund of a category).*

You comment, "Swensen’s seemingly conservative strategy worked fine under “normal” market conditions but failed miserably in the bear market." How you describe failure is by comparing it to a portfolio divorced of equities (or 60/40 portfolio, which it lost to by 7% in the really short term and beat in the mediumish term) in both the mediumish and short term.

Moreover, in your initial comments you dismiss the chief advantage of Swensen's rebalancing by commenting on 3 months of results. Poor, poor, poor. The chief advantage of Swensen's model is that it provides you with a low-impact method of recovering from your down year and also achieving equity like returns without the volatility of equities. Contrary to most investors (poor market timing instincts) rather than running from equities when they've been hammered you are running to them... Picking up LONG-TERM values. (Particularly in REITS which, given that this is a real estate crisis, have been predicably hammered.)

While I appreciate your attempts to "reach out" to your audience and appreciate your point that there is no magic formula (something in my reading of Swensen I never noticed... Indeed, he makes clear that his are suggestions), you seem to skewer Swensen simply for advising less-active investors into equities, when equities took a dump (Your reproach: Swensen in his book doesn't forecast the future. Bad Swensen).

Accordingly, while I agree with your contention that careful analyses of MPT (particularly in light of the growing correlation of previously thought diverse investment classes. Also, as commentators here have noted, why not commodities?) and the average investor are important, I disagree with your point that your earlier post advanced the debate (Indeed, it is a common trick to post schlock and then say you were merely advancing the debate-- the debate advancement was done by those who commented on your poor initial post. No thanks to your post.)

Consequently, I'd also like to thank many of the writers here for elevating Pressman's poor thinking into an interesting exchange.

* I ran a rough check using the (no longer working) Icarra portfolio of Swensen-- which hasn't been updated of late-- over the last 9.5 years vs. the S and P and a 60/40 portfolio... Swensen seems to be winning by with a return of 12,600 on 10,000 invested versus 10,600 for 60/40 and negative returns for the S and P 500. Moreover, his margin was achieved in a ten year secular bear market. If anyone could compare, or, better still, provide me with service that does what icarra does (and still works), I would appreciate it.

Aaron Pressman

July 23, 2009 2:33 PM

@ignorancearbitrage

Thanks for your continued feedback. As I’ve explained to several commenters with similar complaints, it was Swensen himself who focused on the short-term performance of what I call his magic formula. His comment was off-base. The magic formula had not done “reasonably well” in the bear market and his use of the word “probably” made me think he hadn’t even checked before speaking. Go back and read the original post carefully. Swensen made a statement about the formula’s short-term performance, which I quoted. Then I wrote: “Of course, there’s one big problem with Swensen’s answer. His magic formula didn’t do so well during the crisis.” The headline of the post remains equally on-target: “Yale investing guru Swensen missed problems with his advice.”

So, it’s more than a little amusing to read that my method “was entirely short-term and short-sighted.” I was fact-checking what the guy said. Was Swensen “short-term and short-sighted” to make the comment?

Then the post went on to explain how increasing correlations between asset class returns during the market crisis reduces the effectiveness of strategies built on diversification. I think that’s a very important point that investors should keep in mind and one that’s absent from Swensen’s book. That’s one of the “problems” with his advice that he missed (the other being the lack of commodities, which I also briefly mentioned). As I elaborated in my more recent follow-up post, the theories underlying such strategies have come into question, particularly around the issue of making asset allocation decisions based on historical returns, volatilities and correlations.

The post ended with a question: “So what do you think? Should Swensen have his investing guru credentials repealed or is his advice still worth following?” It didn’t declare one way or the other. It invited debate, which is what I expected, and some misreadings and less-than-polite replies, which I didn’t expect but probably should have.

Finally, at no point in either post did I claim only to have “advanced the debate.” I’ll stick with my original point – since elaborated on – that simplistic asset allocation strategies don’t work as expected/claimed during turbulent market conditions because correlations of different asset classes converge.

p.s. Mebane Faber, who I linked to in the post above, has run quite a number of asset allocation models through a historical return calculator. See http://www.mebanefaber.com/2009/07/22/what-a-difference-a-year-makes-endowment-buy-and-hold-and-tactical-returns/

ignorance arbitrage

July 23, 2009 6:42 PM

You write: "So, it’s more than a little amusing to read that my method “was entirely short-term and short-sighted.” I was fact-checking what the guy said." Your fact-checking method _was_ short-term and short-sighted. You fact-checked him based on one year. (I think my points here mirror those of an "American in Paris") For someone who constantly advocates (for individual investors) long-term thinking as Swensen does in his book , I think at best your ongoing analysis in one or 5 year terms would be unfair and, at worst, intellecutally dishonest.

Swensen said, "Reasonably well in the crisis"-- According to your citation of the medium term, his model hasn't lost any money (while, as he comments, providing the individual investor with opportunities to increase their holdings in equities at a lower price). I think that most equity-based investors would say "not getting hammered in the crisis" or "not losing money over the last 5 years"(i.e. staying above par as he has done, with significant equity exposure) would be reasonably well. If you use your short term time-line (which as nearly everyone of your commentators has pointed out is a piss-poor way of evaluating the Swensen (and MPT approach)) then yes, in your model (like everyone else who held equities-- I think one (1!) mutual fund in the US made money last year) he got hit. Given the long term approach of Swensen's advice (note that he says that if you rebalance you are prepared for the future-- not right now), your original analysis focusing on one-year and year-to-date returns was pretty poor. Especially analyzing rebalancing in 3 month terms. That's pretty shoddy, as is your continued using minimal risk models (i.e. treasuries, money market) as a point of comparison.

After your short-term based criticism you raised the question of the recent crisis situation and asked if Swensen should have his "guru" status repealed... In the context of your initial article, it was far from the neutral point you now make it to be.

Second, most annoying is what I read as your philosophical misunderstanding of Swensen's book. Swensen's book is intended to be a correction to most investment advice, which is incredibly bad, for your average Joe Schmoe investor. His book analyzes the chief factors killing investors returns (fees, taxes, poor market timing based on a short-term reactionary approach, etc.) and proposes a lower risk model for achieving equity level returns for the average investor. Comparing it to other asset diversification strategies is a fair criticism-- as other commentators did in response to the original post and you suggested (including gold). However, most average ("active") investors don't act in the long-term strategic manner that Swensen advocates. Instead, when their stocks dip they race to bonds and when stocks rise they race from bonds to stocks, when what Swensen wants to stress is that they should behave differently-- however they are pushed to behave in this way by the pretty crappy mutual fund/investment advice industry (a case he makes convincingly in his book, via looking at asset allocations in actual investors accounts). I also think your use of t-bills as a point of comparison in the original post promotes a certain market timing approach. Who with a 20 year timeline is going to hold t-bills as their sole investment strategy?
Second, Swensen (in his book) aims to track returns on equity (i.e. S and P 500) with significantly less volatility. It seems that according to his books goals, he correct in stating that investors have done "reasonably well." (in terms of 2008 alone -23% v. -37% seems pretty damn good. Most of your readers probably got clobbered a good deal worse than that.)

While we can have a nuanced debate to the various methods of asset allocation and modern portfolio theory, your original points of reference for questioning Swensen and posing the repeal of his guru status weren't very well formed. Likewise, I think there are all sorts of oversights in Swensen's book, but for his intended audience (and as a certain financial-sector j'accuse), the book is really strong.

Again, I appreciate your willingness to dialogue, but my original dislike (however intemperate you may have found it) of your representation of Swensen's approach (and its book) and his aims in your original post still stands. Your later posts have presented a little better understanding of Swensen's book and I am pleased to have had this debate. Hopefully, your thinking going forward might improve (and you might take the time to understand his book).

Ultimately, given his book's orientation, I think the true test of Swensen's approach and its relationship to the current crisis should be judged in 5 or 10 or 20 (50) years. Of course, that doesn't fill column space.

-ia
ignorancearbitrage.blogspot.com

p.s. I heard an interview with Swensen on NPR upon the publication of his book. He said he intended to write a book (seemingly like Faber's) to help individual investors achieve something like Yale-like returns. In the analysis, however, he realized that the investment market was stacked against the individual investor. Swensen's most important lessons, I think, are that investors should focus on the factors they can control-- tax exposure, fees and expenses, long-term strategy, etc.-- and quit responding to short-term, year-to-year returns. Your explicit emphasis ON year-to-year returns is what I found most galling in the original article.

Given the quality of most current analysis on the internet, I revise my comment about your post being singularly idiotic.

Stan Musual

September 1, 2009 12:01 PM

I read with some amusement the above Aaron Pressman piece, as well as the associated comments. Much of what Swensen has outlined in Unconventional Success is mirrored in Pressmand article and the posts; investors looking for short-term gains, perverse market-timing, and the chasing of performances.

My time-line for solid investment performance is approximately 22 years from today. I have made the mistake in the past of (1) paying huge management fees to have my investments managed for me (upawards of $4000/year), (2) watching the manager's strategy generate dividend and interest income, which paid their fees but greatly increased my tax liabilities and (3)realizing that the same manager's strategies were fairly in line with the percentages that Swensen recommends.

After educating myself in a reasonable strategy and also realizing that for-profit financial managers, fund managers, and mutual fund put their own profit ahead of investor gains, I have seen the light. Investing is not rocket science, nor is it the place to get rich quick. I've transferred my assets to TIAA-CREF, have essentially implemented the Swensen strategy, and look forward to average modest annual gains that will allow me to retire comfortably 22 years from now.

James McNatt, CFA

October 12, 2009 12:49 PM

Aaron - If you were to follow the link to its origin, you would find it in the March/April 2009 Yale Alumni Magazine. In the article, directly next to the Swensen "recipe," you would find an editor's disclaimer: "No one, not even David Swensen, can know precisely what's best for your individual portfolio without having seen it." Also, of course, the recipe was offered up after the meltdown; I think this means it is forward-looking, since David Swensen is probably smart enough to calculate a recipe that did in fact do quite well in the meltdown, e.g. long treasuries. But long treasuries aren't a terrific idea for the long run, going forward, since rates are more likely to rise than to fall. Over the long run, in any case, long treasuries deliver a lowish rate of return. Also, what did you use as your proxy for real estate? And finally: at the end of his "recipe" section Swensen revises the recipe to read 15 percent in REITs and 10% in emerging markets. There really is not a good "gotcha" story here.

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