A recent article in the New York Times about a terminally-ill former Goldman Sachs bond salesman may seem an unlikely place to find sound investment advice. However, the banker in question, Gordon Murray, has just written a book, The Investment Answer, which espouses the principles of his last employer, the asset management firm, Dimensional Fund Advisors (DFA). We at Dowling & Yahnke are big fans of DFA. We were among the first investment advisors allowed to offer DFA mutual funds to our clients back in 1991 and we continue to be major investors in their domestic and foreign funds. Why do we like DFA? Because they share our investment philosophy.
Like us, DFA believes that a passive approach to investment management trounces active management. Numerous research studies have shown that the majority of active managers underperform their benchmarks in any given year. DFA teaches that asset allocation (how you divide your assets among domestic stocks, foreign stocks, bonds, real estate, and other types of investments) is the major driver of portfolio returns. In addition, they too are advocates of disciplined rebalancing, that is periodically returning your portfolio to its asset allocation targets by reducing those asset classes that have done well and overshot their targets, and adding to under-performing asset classes that have dropped below their targets. This is the opposite of what most individual investors tend to do when left to do their own devices. Most people want to hold on to their winners and sell their losers, not the other way around. Taking a more contrarian approach yields better results in the long run.
Mr. Murray’s story is an interesting one. He built a successful career as a Wall Street bond seller without understanding the basic principles of investing his own money. A late-career epiphany led him to become a consultant for DFA. His advice in a nutshell:
(1) Hire an advisor who earns fees only from clients and not by selling products.
Dowling & Yahnke’s only revenue comes from the management fee we charge clients.
(2) Determine the appropriate asset allocation for your portfolio.
We build broadly diversified portfolios allocated across bonds, large U.S. stocks, small U.S. stocks, foreign stocks, and real estate securities.
(3) Include foreign as well as domestic securities.
Dowling & Yahnke invests in foreign stock funds, many managed by DFA.
(4) Decide whether you want a passive or active management approach but know that the long-term track record of active managers is poor.
(5) Rebalance your portfolio on a regular basis taking a contrarian approach.