Unconventional Success

I just finished reading Unconventional Success by David F. Swensen, a fascinating, and ultimately, disturbing book. Swensen details the utter horrors visited upon the personal investor by Wall Street, the mutual fund industry, and the SEC. Any investor not using Vanguard index funds is doomed to have his/her wealth steadily transferred, by hook or by crook (literally) into the pockets of Wall Street. "Buyer beware" indeed.

The portion of the book I wish to memorialize here deals with portfolio construction and asset allocation. Swensen emphasizes that investors need to understand the "why" behind asset selection - to understand the investment attributes provided by a particular asset class. He identifies six core asset classes:

1. domestic equities
2. foreign developed market equities
3. foreign emerging market equities
4. real estate
5. US Treasury bonds
6. inflation-indexed bonds (TIPS)

The characteristics contributed by core asset classes include:

• substantial expected returns (equities)
• correlation with inflation (TIPS, real estate, and equities)
• protection against financial crisis (government bonds)

Swensen includes an entire chapter on non-core asset classes, explaining why each is not a good choice for inclusion in a portfolio. Of significant interest is the rejection of any kind of bond other than US Treasury bonds, with the sole possible exception of municipal money market funds. Non US Treasury bonds contain characteristics that make them a lose-lose situation for the investor - they have a zero upside with lots of down side.

Swensen does not include a discussion of asset styles such as growth/value or small cap/large cap in the chapters on core and non-core asset classes. The reader is left wondering whether such investments are worthy of inclusion in a portfolio. Swensen mentions styles only when discussing the importance that indexes be well designed - defined as an index that does not undergo undue changes in composition. He rejects style classes for the sole reason that the indexes themselves are poorly constructed (i.e. constructed in a manner that result in too much turnover and provide opportunities at time of index adjustment for market arbitrage - all at the investor's expense).

My Recommended Reading

The books I want my wife and daughters to read:

Gregory Baer & Gary Gensler, "The Great Mutual Fund Trap" (2002)

John C. Bogle, "The Little Book of Common Sense Investing: The Only Way to Guarantee Your Fair Share of Stock Market Returns" (2007)

John C. Bogle, "John Bogle on Investing : The First 50 Years" (2001)

Burton G. Malkiel, “A Random Walk Down Wall Street”

William J. Bernstein, “Four Pillars of Investing: Lessons for Building a Winning Portfolio”

Larry E. Swedroe, “The Only Guide to a Winning Investment Strategy You’ll Ever Need”

Ed Slott, “The Retirement Savings Time Bomb and How to Defuse It”

Recommended Reading from William Berstein

William Berstein, author of the Four Pillars of Investing, recommends the following books:

Investing Classics
1. Random Walk Down Wall Street by Burton Malkiel
2. Common Sense on Mutual Funds by John Bogle

Wallstreet in 1980s and 1930s
1. A Fool and His Money by John Rothchild
2. Where are the Customers' Yachts by Fred Schwed

Once in Golconda by John Brooks
How things got nasty between New York and Washington in the aftermath of the Great Depression and how Uncle Sam finally got his hands on Wall Street to the benefit of just about everybody

Devil Take the Hindmost by Edward Chancellor
A history of manias and crashes over the centuries. If this book doesn't bulletproof you from the next bubble, nothing will

Bernard Baruch; Money of the Mind; Minding Mr Market; and The Trouble With Prosperity - all books by James Grant
This man has a better grasp of capital market history than anyone else I know, and the quality of his prose is superlative to the point that it occasionally becomes distracting.

Capital Ideas by Peter Bernstein
An engaging history of modern financial theory and its far reaching influence on today's markets

Winning the Loser's Game by Charles Ellis
A succinct look at the essence of money management by one of the country's most respected wealth managers.

Global Investing by Gary Brinson and Roger Ibbotson
A panoramic view of stocks, bonds, commodities, and inflation the world over. Now more than a decade old, it's beginning to show its age but is still worth it.

Asset Allocation by Roger Gibson
An excellent primer on portfolio theory and the mathematics of arriving at effective allocations.