Young Retirees Shouldn’t Actively Manage Their Portfolios
The urge to tinker with your portfolio is strong for any investor. For early retirees that have a lot of extra time on their hands, the urge is even stronger. Nevermind that modern portfolio theory states you can’t beat the market except by luck. Even granting the market doesn’t set prices entirely efficiently, it’s still more than unpredictable enough to make trying to earn above-average returns a loser’s game.
Active traders use various tactics in an effort to micro-manage their investments:
- Trying To Time The Market – To successfully time the market, you’ve got to guess right twice: when to get out, and when to get back in. I’ve never met anyone who could do this consistently. I’ve also never met anyone who’d met anyone who could. I doubt such a person exists, but even if she did, it’s probably not you.
- Selling Covered Calls – Selling covered calls is an interesting strategy to try to increase the cash yield of a portfolio, but in the end, is fatally flawed. The problem is that it skews the risk/return ratio downward. If a stock you sell a covered call against performs well, it will likely get called away from you and you’ll lose out on any additional upside. No problem there, it was a risk you willingly took. The problem is, covered call strategies do nothing to protect your downside. You can still lose it all. Capping your upside without limiting your downside is not a good deal, in my opinion.
- Chasing Top-Performing Funds – Following top-performing actively-managed funds is a national past-time. It’s no wonder why the media needs active funds and the excitement they bring to sell magazines. Picking a winning actively-managed fund is an incredibly difficult task because the top-performing funds for one year have a habit of showing up on the bottom of the list in subsequent years. Buying and selling funds in an attempt to beat the market are the surest way to below-average returns.
I’m a firm believer in passive investing. Index funds have lower expenses than their actively-managed counterparts and subsequently, tend to out-perform them handily over long periods. You can’t control how generous the market will turn out to be, but you can control how much of your return goes to your broker and Uncle Sam. For a primer on passive investing and portfolio construction, check out William Bernstein’s The Four Pillars of Investing: Lessons for Building a Winning Portfolio