Chapter 13
Portfolio ideas to build and keep your
wealth
We’ve spent these last few chapters getting to know the lay of the land, if you will. Now let’s turn our attention to the fun stuff. How, exactly, can we use what we’ve learned so far to build and keep our wealth? I’m going to give you two portfolios, each using the tools (funds) we’ve discussed.
First I’ll show you exactly what I tell my 24-year-old to do. She couldn’t care less about investing, and with this simple approach she doesn’t have to.
All she needs to do is keep adding to the pot and let it ride. Years from now she’ll wake up rich. Along the way she’ll outperform over 82% of the more actively engaged investors out there. We’ll call this The Wealth Accumulation Portfolio.
Then I’ll share with you what my wife and I do as the semi-retired couple we are. We’ll call that one The Wealth Preservation Portfolio.
Your personal situation is likely different from our family’s. But using these two as parameters, and after reviewing your personal “considerations” as we discussed in Chapter 5, you should be able to fashion these tools into something that works for you.
The Wealth Accumulation Portfolio
This is what I’ve created for my daughter and what I tell her as to why.
Here’s the thing: if you want to survive and prosper as an investor you have two choices. You can follow the typical advice we examined in Chapter 1 and seek out broad diversification with extensive asset allocations. Your hope is this will smooth the ride, even as it reduces your long-term returns.
Screw that! You’re young, aggressive and here to build wealth. You’re out to build your pot of F-You Money ASAP. You’re going to focus on the best performing asset class in history: Stocks. You’re going to “get your mind right,” toughen up and learn to ride out the storms.
You’ve heard the expression, “Don’t keep all your eggs in one basket.”
You’ve likely also heard the variation, “Keep all your eggs in one basket and watch that basket very closely.”
Forget it. Here’s what your kindly old Uncle Jim says:
Put all your eggs in one basket and forget about it.
The great irony of investing is that the more you watch and fiddle with your holdings the less well you are likely to do. Fill your basket, add as much as you can along the way and ignore it the rest of the time. You’ll likely wake up rich.
Here’s the basket: VTSAX. No surprise here if you’ve been paying attention so far. This is the Total Stock Market Index Fund that holds virtually every publicly traded company in the U.S. That means you’ll be owning a part of about 3,700 businesses across the country, making it a very big and diverse basket. The fact that it is a low-cost index fund keeps more of your money working for you.
Owning 100% stocks like this is considered a very aggressive investment allocation. It is aggressive and in this Wealth Accumulation Phase, you should be. You have decades ahead and you’ll be adding new money as you go. Market ups and downs don’t matter because you’ll avoid panic and stay the course. If anything, you recognize drops as the “stocks on sale” buying opportunities they are. Perhaps 40 years from now (or whenever you are living on your portfolio) you might want to add a bond index fund to smooth the ride. Worry about that then.
At this point, I can see the financial gurus of the world gathering feathers and heating up the tar. So let me explain.
Previously, we explored the idea that financial crises are just part of the landscape and the best results come from simply riding them out. You can’t predict them and you can’t time them. Over your investing career you’ll experience many of them. But if you are mentally tough enough you can simply ignore them.
So now if we agree that we can “get our minds right,” what shall we choose for riding out the storm? Clearly we want the best performing asset class we can find. Just as clearly that’s stocks. If you look at all asset classes from bonds to real estate to gold to farmland to art to racehorses to whatever, stocks provide the best performance over time. Nothing else even comes close.
Let’s take a moment to review why this is true. Stocks are not just little slips of traded paper. When you own stock you own a piece of a business.
Many of these have extensive international operations, allowing you to participate in all the markets across the globe.
These are companies filled with people working relentlessly to expand and serve their customer base. They are competing in an unforgiving environment that rewards those who can make it happen and discards those who can’t. It is this intense dynamic that makes stocks and the companies they represent the most powerful and successful investment class in history.
Because VTSAX is an index fund, we don’t even have to worry about which companies will succeed and which will fail. As we’ve seen, it is ‘self-cleansing.’ The failures fall away and the winners can grow endlessly.
A portfolio of 100% stocks—which is what VTSAX gives you—in study after study provides the greatest return over time. However if you are not tough enough to stay the course or if you get scared and bail when the storms are raging, you are going to drown. But that’s a psychological failure, not a downside of this asset class.
As an aside, there are studies that indicate holding a 10-25% position in bonds with 75-90% stocks will actually very slightly outperform a position holding 100% stocks. It is also slightly less volatile. If you want to go that route and take on the slightly more complicated process of periodically rebalancing to maintain the allocation, you’ll get no argument from me.
Could it really be this easy? Yep. I started investing in 1975. At the time VTSAX had yet to be created, but over the 40 years from January 1975 until January 2015, the S&P 500 index produced an annualized growth rate 1 of 11.9%.Just $2,400 a year ($200 per month) invested and left to ride 2 would have grown to $1,515,542by 2015. Over that same period, a one 2 time lump sum investment of $10,000 would have become $897,905This
despite all the panics and collapses and recessions and disasters we’ve endured during these last 40 years.
Unfortunately, I wasn’t smart enough at the time to do it. But this is The Simple Path to Wealth I created for my then 19-year-old daughter: Put all your eggs into one large and diverse basket, add more whenever you can and forget about it. The more you add the faster you’ll get there. Job done.
The Wealth Preservation Portfolio
But wait you say, I’m at or nearing retirement. I’ve built my wealth. Now I want to hang on to it. Or maybe I’m just not comfortable with the volatility of an all or mostly stock portfolio. I want a smoother ride. What then?
Yeah, me too. A few years ago as I was nearing my own retirement I expanded beyond just VTSAX. Hold on now, this is going to get really complicated. You’re going to have to add another index fund. Oh my!
We now enter the world of asset allocation and this will require slightly more of our time. In addition to adding the additional fund, we’ll want to decide how much to allocate to each. Then once a year or so we’ll want to rebalance to keep the allocations where we want them. It’s going to take a couple of hours once a year. You can handle it.
As we know, a portfolio comprised of 100% stocks—even in the broadly diversified VTSAX—is considered very aggressive. High short-term risk (read: gut wrenching volatility) rewarded with top long-term results. Perfect for those who can handle the ride, are adding new money to their investments and who take the long view.
But it’s not for everybody. Maybe you don’t want to deal with this level of volatility. Maybe a bit more peace of mind is required. As you get older you might want to smooth the ride a bit, even at the cost of lower overall returns. You want to sleep at night.
Now that I’m kinda, sorta retired and we are financially independent, me too. My wife and I hold some other stuff in our portfolio. But not much.
Here it is:
~75% Stocks: VTSAX (Vanguard Total Stock Market Index Fund). Still our core holding for all the reasons we’ve discussed. ~20% Bonds: VBTLX (Vanguard Total Bond Market Index Fund). Bonds provide some income, tend to smooth out the rough ride of stocks and are a deflation hedge. ~5% Cash: We hold ours in our local bank.
You can fine-tune these allocations to your own personal considerations.
Want a smoother ride? Willing to accept a potentially lower long-term return and slower wealth accumulation? Just increase the percentage in VBTLX. Comfortable with volatility? Want more growth? Add more to VTSAX.
Now that we’ve introduced this idea of asset allocation, we’ll explore it a bit more next.