Burton G. Malkiel, the Princeton professor who brought Efficient Market Theory to the mass market in his classic A Random Walk Down Wall Street has taken up the defense of buy and hold investing, and the idea of diversification more broadly.
Ever since the trauma of 2008 when so many global asset classes moved down in tandem, there’s been ample discussion of the merits of diversified portfolio building. Many assets classes have continued to be highly correlated.
None of it’s convinced Malkiel. In a strongly worded defense on the Wall Street Journal’s opinion page, adapted from his introduction to the upcoming 10th edition of Random Walk, he remains as convinced as ever that the average investor should own a diversified portfolio made up of cost-effective index funds and contribute to it regularly and rebalance periodically to take advantage of the benefits of dollar cost averaging. (In short: if you’re buying regularly, you’ll buy when prices are low and when they’re high, bringing your average cost somewhere in the middle.It’s an important discipline for retail investors who many studies show too often buy at the high.)
The timeless investment maxims of the past remain valid. Indeed, their benefits may be even greater today than ever before.
To hush the naysayers, Malkiel provides a chart of the 10 year performance of $100,000 split between 5 Vanguard funds as follows (the links take you to Yahoo comparisons of each fund to the US stock fund, VTSMX):
33% Fixed Income Vanguard Total Bond Market Index VBMFX
27% US Stock Vanguard Index Trust Total Stock Market VTSMX
14% Developed Foreign Markets Vanguard Developed Markets Index VDMIX
14% Emerging Markets Vanguard Emerging Markets Stock VEIEX
12% Real Estate Investment Trust Vanguard REIT Index VGSIX
That shows a growth of almost $92,000 over the period. Malkiel writes:
The diversified portfolio, annually rebalanced, produced a satisfactory return even during one of the worst decades investors have ever experienced. And if the investor also used dollar-cost averaging to add small amounts to the portfolio consistently over time, the results would have been even better.
In the comments on the piece, one criticism raised was that Malkiel had cherry picked his time frame, “mov(ing) the goal post” to “show you a great return.” That the last 10 years would have been negative.
Using a backtesting tool Folio Investing offers on unfunded “watch” portfolios I tested that out and also found that the Malkiel portfolio won handily over that time frame, rising almost 70% during the “lost decade” of 2000-2010, compared to a 2.73% decline for the stock fund alone.
Obviously his tilt toward emerging markets helped, but the most crucial was the bond stake, a standard form of diversification found in even the simplest portfolios.
(Editor’s note on Correction: the original version of this piece said Malkiel’s portfolio held 4 Vanguard funds, which is incorrect. It holds five. Also the Wall Street Journal chart tracks 10 years of performance, not 15, as described in the original version of this post. The corrected sentence: To hush the naysayers, Malkiel provides a chart of the 10-year performance of $100,000 split between 5 Vanguard funds as follows.)