Photograph: Silk rug – China
Portfolio turnover is a problem for investors. It is a much larger problem than most realize. Swensen writes in “Unconventional Success,” “In an industry characterized by a long litany of shockingly dysfunctional behaviours the frenetic churning of mutual-fund portfolios stands near the top of the list. In 2002, the weighted-average turnover of equity mutual-fund portfolios registered at a staggering 67 percent, representing a level consistent with an average holding period for security positions of 1.5 years.”
Odean and Barber put some numbers to over-trading in two studies. In “Are Investors Reluctant to Realize Their Losses?” Odean examined 10,000 random discount brokerage accounts and found that stocks investors purchased underperformed securities they sold! In a follow-up study titled “Trading is Hazardous to Wealth: The Common Investment Performance of Individual Investors,” Hebner writes, “Odean analyzed 66,465 individual trading accounts. [How did he ever gain access to this many accounts?] They found that from 1991 to 1996, investors that traded the most earned an annual return of 11.4%. In the same time period, the market returned 17.9%. The simple conclusion: Active investment strategies will underperform passive or indexed investment strategies.”
Obviously, the title of Odean’s second paper gave rise to the title for this entry. We avoid trading by going the passive route, although we are not completely passive investors. We only need to buy and sell if rebalancing of asset classes is appropriate or if we deem it necessary to make a change in the asset allocation. In a number of portfolios, we are reducing the exposure to the bond asset class as we see a high probability of interest rates going up in the future. We don't know when this might happen, but we want to prepare for the inevitable.
Tags: David Swensen, Odean, Passive vs. Active Investors
Investors do not save enough early enough. One will not have sufficient retirement funds if the saving rate is too low and the key is to begin saving as early in life as possible. All the other mistakes are moot if one does not have capital to invest. One of the services to Gold members is to take the ticker symbols and the percent invested in each, and run an analysis to see if the investor will have sufficient funds to make it through retirement.