Unconventional Success

Unconventional Success is a book about personal investing which shows Warren Buffet-like clarity of thought and insight.  This should not be surprising at all, because the author, David F. Swensen, is a Warren Buffet-like investor.  He is the chief investment officer of Yale University and in that position delivered 16.% per annum returns for two decades (that's twenty years, 20).  So when somebody like him writes, we read, and learn.

The book teaches us that for institutional portoflios, 90 percent of variability stems from asset allocation and 10% from security selection and timing.  Basically, you should spend most of your time on asset allocation and not on stockpicking.  Swensen's key message is that there are three big variables to consider when creating a portfolio, which are 1) Equity bias - a big chunk of your investment should be in equities, 2) Diversification - optimizes risk to return, 3) Tax sensitivity - an often forgotten piece of the puzzle that effects ultimate returns to investors.  Why these three variables?  He answers that by showing the long-term historical impact of these variables on return relative to others.  So optimizing for these three variables, Swensen comes up with six core asset classes that one should invest in.  They are:

1) Domestic Equities

2) Foreign Developed Market Equities

3) Emerging Market Equities

4) U.S. Treasury Bonds

5) U.S. Treasury Inflation-Protected Securities

6) Real Estate

With the right mix between these, Swensen believes that you can maximize the three variables he considers critical in long term success.  This part of the book is education on best practices.  The rest is about non-core assets and how investing in these will actually hurt the investor long terms.  What are they?  Mutual funds (all for-profit funds), hedge funds, private equity funds, buyouts and even Venture Capital (well he does make a small exception for top tier Venture funds :-)  Mutual funds, a very popular investment vehicle is missing.  That's for a good reason.

Example after example, Swensen shows how mutual fund industry has stacked the deck against the individual investor.  You will really think twice investing in mutual funds after you read this book, beware.  And that is what I most recommend.  It opens your eyes to how much you are losing when you pick mutual funds in your 401K carelessly.  I recommend this book to anybody who has a dollar invested in the stock market.

Thank you Casper De Clerq for recommending me this book.

Comments

[Hip Hindu]

Baris,

I haven't had a chance to read this book, but I would share some of the author's skepticism about the U.S. mutual fund industry. Particularly loathsome is the practice of index-hugging, where fund managers essentially mimic their specific benchmark indices in order to avoid losing assets. The mutual fund industry economic model (1%+ management fee) provides perverse incentive to mutual fund complexes (like Fidelity, among others) to amass huge sums of assets.

Unfortunately, as assets under management scale, sufficient performance is harder and harder to come by.

Another way to think about this is as follows ... just as in other aspects of life, the true scarcity in investing is good investable ideas. Suppose that there are only 10-20 really great investment ideas per year. But multi-billion dollar mutual funds have to own many, many more than 10-20 stocks. So, in essence, they have to dilute returns by buying the 21st, 22nd, 23rd, 24th, 25th, 26th ... 100th great stock idea. What happens if the 50th-100th great stock idea really isn't all that great?