The Investment Scientist

Archive for October 2013

ImageAs far as investment philosophy is concerned, I am solidly in the camp of Nobel Prize winner Eugene Fama and Vanguard founder Jack Bogle. They both believe that the market is by and large efficient, and there is no point in picking stocks.

Most of my money is in broad-based passively managed asset class funds, but I do set aside 5% just to have some fun with and right now I only have three stocks in my fun account.

Safeway

I bought SWY last November after going to the Chicago Booth Entrepreneur Advisory Meeting. From the meeting, I learned that big retailers routinely write off their inventory at a huge loss. The reason being that they can not control demands as they have little information about the needs of the individual consumer, though they can usually make a rough guess on aggregate needs.

I noticed my wife had been shopping at Safeway more and more. After a little digging, I found out Safeway had set up a technology system to track each individual’s needs and price sensitivities. Then it can make targeted offers to shoppers like my wife that unfailingly brought her back over and over. I recalled my earlier meeting and realized they would save tons of money just from better inventory management.

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ImageIt really caught me by surprise when Eugene Fama, the newly minted Nobel laureate in Economics said: “It doesn’t matter that much.” when speaking about investing outside of the US.

OK sure, I can understand his point. Why invest outside of the US when the US markets already account of 40% of world capitalization? “The U.S. market is so well-diversified already that combining it with global markets doesn’t really matter,” so said Fama.

However, I think it actually does matter ….

Proportionally, the US market is getting smaller. Right after the second world war, the US market accounted for 70% of world capitalization, now it only accounts for 40%. For a country that boasts only 5% of of the world’s population, this is still exceptionally high.

For the foreseeable future, there are better than even odds that the combined markets outside of the US will grow faster than the US market will do alone. Why forego those opportunities?

The diversification benefit you’d get is certainly not negligible either. During the so-called ‘lost decade’ of 2000 to 2009, the US market, as measured by the S&P 500, had a net loss of 9.1%, while international developed markets went up by an anemic 12.4%, but emerging markets went up by a whopping 154.3%.

It would have made a bog difference if you have a piece of emerging markets in your portfolio.

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ImageI bet you didn’t know that this week, the third week of October, is … drum roll please … National Estate Planning Awareness Week!

Seriously! Congress established it in 2008 in House Resolution 1499.

I only know this after getting an email from my estate planning attorney friend. I think you should read it as well.

According to the resolution passed by Congress, “Many Americans are unaware that lack of estate planning and financial illiteracy may cause their assets to be disposed of to unintended parties by default through the complex process of probate.” The resolution goes on to state that “careful planning can greatly assist Americans in preserving assets built over a lifetime for the benefit of family, heirs, or charities.”

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ImageTwo days ago I went to listen to a geopolitical lecture given by Professor Mearsheimer of the University of Chicago.

Professor Mearsheimer is a geopolitical realist. He has an intriguing theory about global political order which states that there is a 75% chance that the US and China will come into conflict.

I care about this subject because, being a Chinese American, I know that my life would not be too pleasant should that come to pass.

Professor Mearsheimer’s theory is based on the assumption that the global order is anarchic, by that he means there is no higher authority above states, and that each state will fight for a better position in the order.

The US, now being number 1, is not going to willingly give up the top spot, and China, if given the opportunity, is not going to settle for second best.

Professor Mearsheimer explains how the US became #1 in the first place:

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Image

I jumped out of my chair in delight when I learned that Eugene Fama and Robert Shiller had won this year’s Nobel Prize in Economics. These are two economists that greatly influenced my investment philosophy and their works have been an integral part of how I help my clients build and preserve wealth.

Let me explain their contributions:

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ImageWhen I was in California, I had a very intelligent debate with a doctor. He mentioned that in 2012, the US took in $2.5T in revenue and spent $3.6T in government expenditures.

He accurately pointed out, “If I spent like that, I would be bankrupt in a few years.” He believes so strongly that the US is going the way of national bankruptcy that he has moved substantial amounts of his money overseas and has invested a great deal in gold.

I happen to believe that gold is the most unproductive of assets, since it does not generate dividends or interest and it actually costs money for upkeep in a safe in a Singapore bank.

On top of that, by throwing so much money into gold, one could over prepare for a disaster that is very unlikely to happen and thereby miss out on all the opportunities to grow wealth in this country.

But I still need to explain why the US won’t go bankrupt anytime soon. Here are two explanations:

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ImageMy wife came home very sad today.

A colleague of hers got a call from her son’s teacher. He had come up to her to complain about chest pain when he suddenly collapsed right there in front of her.

My wife’s colleague ran to the emergency room only to find that her son was already pronounced dead. Doctors there couldn’t figure out how this could have happened to a healthy ten year old.

The child’s mother had refused to give up and gave CPR to her lifeless son for an hour until his rib cage nearly cracked.

My wife and her colleague used to swap stories about their respective children regularly and this son was the one she talked about most often. Now he is gone.

I don’t know her, but my heart is overwhelmed by sadness and I am reminded yet again that money and material trappings mean nothing. Life alone is the real treasure.


Author

Michael Zhuang is principal of MZ Capital, a fee-only independent advisory firm based in Washington, DC. He is also a regular contributor to Morningstar Advisor and Physicians Practice. To explore a long-term wealth advisory relationship, schedule a discovery meeting (phone call) with him.



You may also get his monthly newsletter, or join his Facebook page for regular wealth management insights. Michael's email is info[at]mzcap.com.

Twitter: @mzhuang

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