If you’re under 35, this is the ultimate all-value equity portfolio
Reprinted courtesy of MarketWatch.com.
To read the original article click here.
Most savvy investors (and certainly Warren Buffet) are well acquainted with the attractions of value stocks and value funds. Over long periods of time, value funds (those that invest in “unloved” and less popular stocks) have consistently outperformed popular indexes such as the S&P 500 SPX, -0.17%
This week I’m going to show how investors with long time horizons — perhaps those in their 30s and younger — can put this fact to work for them with an all-world, all-value equity portfolio.
Where to begin
This is a simple variation on the Ultimate Equity Portfolio, which reflects the way most of my own equity money is invested. As I have written many times before, I believe this Ultimate Equity Portfolio is the best possible equity combination for most investors.
|Portfolio 1||Portfolio 2||Portfolio 3|
|Portfolio makeup||S&P 500 Index||Ultimate Equity*||Worldwide Value**|
|46-year compound return||9.25%||11.28%||12.43%|
|Annual standard deviation||17.3%||18.0%||20.6%|
|$100,000 grew to (annually rebalanced)||$5,859,979||$13,645,527||$21,950,359|
|* 10% each: S&P 500, U.S. large value, U.S. small blend, U.S. small value, U.S. REITs, international large blend, international large value, international small blend, international small value, emerging markets.|
|** 25% each: U.S. large value, U.S. small value; 20% each international large value, international small value; 10% emerging markets value.|
As noted in the table (which identifies it as Portfolio 2), this is made up of equal parts of 10 important asset classes: the S&P 500, U.S. large-cap value, U.S. small-cap blend, U.S. small-cap value, U.S. real estate investment trusts, international large-cap blend, international large-cap value, international small-cap blend, international small-cap value and emerging markets stocks.
Over many medium-term and long-term periods, this combination has outperformed the S&P 500 without adding significant risk. Here’s an article that gives a full explanation of how this portfolio is put together and why it has worked so well.
Although that portfolio is weighted toward value, it still contains a lot of growth stocks (in the blend funds), which have tended to lag behind value stocks.
Less is more?
In recent weeks I began wondering: What would happen if such a portfolio were stripped of everything except value funds?
In my column last week, I answered part of that question as it would apply to a simple four-fund U.S. equity portfolio. The answer: Investing equally in only two funds (U.S. large-cap value and U.S. small-cap value) led to significantly higher 15-year returns and 40-year returns, when compared to a four-fund portfolio that also included the S&P 500 and small-cap blend stocks.
The additional statistical risk of this change was not very significant.
So I then wondered: What would happen if we modified the 10-fund Ultimate Equity Portfolio by reducing it to only five value-oriented funds?
You’ll see the answers in the table.
The time period in this comparison is shorter than the one I used to compare the U.S.-only portfolios last time. That’s because historical data for some international asset classes is somewhat less reliable prior to 1970.
Taking chance out of the equation
But going back to 1970 still provides 46 years of data, which is certainly enough to discern patterns that are not likely to be just the result of random chance.
As you have probably noticed already in the table, over the 46 years from 1970 through 2015, this worldwide value portfolio (labeled as Portfolio 3) turned in a compound return of 12.43%, which is 1.15 percentage points higher than the 11.28% return of the Ultimate Equity portfolio. That seems like a small number, but it’s actually a 10.2% boost in the compound return.
Either way, that increase may still seem like a yawner.
But over 46 years, as you can see, it made the difference (on a $100,000 initial investment) between $13.6 million (Portfolio 2) and nearly $22 million (Portfolio 3).
That’s a boost of nearly 61% in dollars.
Not every investor can set that much money aside for 46 years, of course. But young people in their 20s can sock away $5,000 a year (sometimes more, of course) toward retirement. And it’s not hard to imagine that such money could remain invested for nearly half a century before it is needed.
An all-value portfolio is likely to work for reasons that have been well known and well-documented for a long time.
- Value stocks are ones with prices that make them relative “bargains” in relation to their underlying fundamentals such as sales, profits and book value.
- The bargain prices often result from reasons quite unrelated to the actual prospects for specific companies.
- Certain industries go “in and out of favor” with institutional investors; when they regain “preferred” status, those industries (and the stocks that make them up) attract investors who are willing to pay higher prices.
Still, an all-value portfolio is unusual, and many investors will be uncomfortable abandoning funds that own popular growth stocks like Google GOOG, -0.01% (now part of a company named Alphabet), Facebook FB, +0.63% , Amazon AMZN, -1.56% , Apple AAPL, -0.90% and Home Depot HD, +0.61% .
In addition, the majority of the stocks in this portfolio’s funds are headquartered outside the United States.
However, the additional return of the Ultimate All-Value Equity Portfolio may be compelling for those who are comfortable with international stocks and who can take the long view.
To learn more, check out my podcast: The ultimate all-value equity portfolio.
Also, check out my free 2 ½ hour video, “Financial Fitness Forever: How to make more money, at less risk, with more peace of mind.”
Richard Buck contributed to this article.