Dear Reader: Every year since 1995 I have described what I believe is the best way to build an equity portfolio for long-term investors.
This article is part 1 of a series intended to give investors what they need to succeed without relying on expensive managers or trying to outperform the market.
Increasingly, I tell people that they should think of investing as a journey rather than a series of events. This is the first leg of that journey.
Let’s get started with the gloves off.
Many investors are following outdated advice that prevents them from achieving the returns they could have, while burdening themselves with unnecessary risks and losses.
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Sixty years ago, medical experts believed – and preached – some things we now know to be wrong:
- “Smoking is good for you.” Doctors appeared on cigarette ads, not realizing they were promoting a leading cause of cancer, heart disease and stroke.
- “The more protein, the better.” no We now know that excess protein can damage our kidneys.
- “People need a lot of rest.” Now we understand that active lifestyles promote longer and healthier lives; Ironically, too much rest can be harmful.
When I first got into the investment business 60 years ago, most people “knew” that you only needed to own 10 to 20 individual stocks of “good” companies that you must hold forever.
Later, investment experts became “wise” and began recommending ownership of the 500 companies in the S&P 500.
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In the 1990s, many people thought they would be needed.
But just like medical professionals, we investors now have far more tools available to us to achieve more of what we want (higher long-term returns) and less of what we don’t (pain and loss).
Academic researchers are in almost complete agreement that diversification is the only “free lunch” Wall Street offers. They identified nine equity asset classes that have a strong long-term record of being good diversifiers when combined with the S&P 500, a “mix” of growth stocks and value stocks.
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Here are those nine: US Large-Cap Value Stocks, US Small-Cap Blend Stocks, US Small-Cap Value Stocks, Real-Estate Investment Trusts, International Large-Cap Blend Stocks, International Large-Cap Value Stocks, International Small-Cap Blended stocks, international small cap value stocks, and emerging market stocks.
I have no idea which of these asset classes will do best or worst in any given period I don’t need to know that. For nearly 30 years I have advocated owning them all equally, in a combination I refer to as The Ultimate Buy and Hold Strategy.
On our foundation’s website you can find a pair of tables, one showing how each of these building blocks has boosted the long-term performance of the S&P 500 over the past 53 calendar years, the second showing how this portfolio was built step by step. .
Take a look at some of what you’ll find there.
Because we are talking about 53 years, the numbers are huge. Take them with a grain of salt because they are not adjusted for inflation and just as important, the future will not be the same as the past.
An initial investment of $100,000 in the S&P 500 at the beginning of 1970 will grow to $18.9 million by the end of 2022. That’s definitely a “wow” number, and a good basis for comparison.
By contrast, a portfolio consisting of equal parts of that index and the nine asset classes I listed above, with annual rebalancing, would grow to $41.8 million.
This is the long-term power of diversification. And that’s easily achieved through exchange-traded funds, which we’ve identified as the best of the bunch.
This 10-fund strategy doesn’t require you to look into the future or pick a manager or sector or company. No need to figure out when to enter and exit the market.
All it requires is a lot of patience and a hands-off approach. If you tamper with it, it will not work as expected.
The big problem with looking at past returns is that we know how things turned out in the end. It’s easier to “take risks” this way. But as humans we must live in the present without knowing the future.
At the Merriman Financial Education Foundation, we calculate compound returns a decade at a time. Some differences deserve your full attention.
Table No. 1: Compound Annual Growth Rate, S&P 500 vs. 10-Sector Global Equity Portfolio
| S&P 500 | Worldwide combo | |
| 1970-1979 | 5.8% | 13.3% |
| 1980-1989 | 17.5% | 22.2% |
| 1990-1999 | 18.2% | 10.1% |
| 2000-2009 | -1.0% | 7.3% |
| 2010-2022 | 12.1% | 8.2% |
| 1970-2023 | 10.4% | 11.8% |
If you started investing in 1970, you could be forgiven if you decided to go all-in with a global portfolio after 10 years.
But the 1990s presented a very different story. By 2000, many investors were convinced that the S&P 500 was all they needed.
Then two major bear markets hit, leaving the S&P 500 with a money-losing decade from 2000 to 2009. Anyone who retired in 1999 or 2000 and relied exclusively on this index will find the first decade of this century to be extremely painful.
(That’s another topic entirely, but it’s one of the reasons I always urge people to do their best to retire with more assets than they need.)
The last line of the table shows that a high level of diversification has worked exceptionally well over the long haul.
However, owning and managing 10 asset classes is too much for most investors. It’s bad news.
The good news is that Chris Pedersen, our Foundation Research Director, has created a series of simple portfolios that are much easier to live with. They each outperformed the long-term performance of the S&P 500.
That will be the subject of my next article in this series.
To learn more about this “ultimate” 10-part portfolio, I recorded a video and a separate podcast.
Richard Buck contributed to this article.
Authored by Paul Merriman and Richard Buck We’re talking millions! 12 Easy Ways to Improve Your Retirement.
April is National Financial Literacy Month. To mark the occasion, MarketWatch will publish a series of “Financial Fitness” articles to help readers improve their financial health and offer advice on how to save, invest and spend their money wisely. Read more here.