The asset garden approach to asset allocation is intuitive, allows for creative freedom and, unlike Modern Portfolio Theory, does not give investors “a false sense of confidence” about portfolio outcomes. So argues former money manager J. David Stein, host of the popular podcast “Money for the Rest of Us,” in an interview with ThinkAdvisor.
The asset garden methodology of “landscaping” an investment portfolio encourages investors to understand what drives an asset class rather than get “bogged down” in MPT, maintains Stein, who was chief investment strategist, chief portfolio strategist and research co-head at Fund Evaluation Group, a $70 billion investment advisory firm that he co-founded.
An institutional advisor for more than 20 years, Stein, 54, likens asset-garden allocation, which he uses for his personal portfolio, to designing a garden with a variety of plants and flowers that bloom at different times. Just as there can be no “optimized flower garden,” there is no “optimal” portfolio, he contends.
In his new book, “Money for the Rest of Us: 10 Questions to Master Successful Investing” (McGraw Hill-Oct. 2019), he provides a detailed framework for analyzing investments and evaluating opportunities.
In the interview, Stein, who became a podcaster about six years ago after selling his interest in Fund Evaluation to his partners, explains his “leading-edge-of-the-present” approach to investing and discusses six of his book’s 10 questions including: Is it investing, speculating or gambling? Who is getting a cut? How does it impact your portfolio?
ThinkAdvisor recently chatted with Stein, who was on the phone from his Phoenix office. A longtime public speaker who has addressed industry events held by Morningstar and TD Ameritrade, among others, he talked about the array of asset classes in his own portfolio and why his approach to investing focuses on the present rather than forecasting the future.
Here are excerpts from our conversation:
THINKADVISOR: What’s your approach to investing?
DAVID STEIN: I call it investing on the leading edge of the present: Where are we today? What are the high-probability decisions we can make that will help us navigate the uncertainty and complexity of the investment landscape?
My approach is to try not to forecast the future but to be mindful of the present and willing to make asset-allocation adjustments based on market conditions — for example, when there’s a major regime change or the risk of that is high, to be willing to adjust the allocation to reduce risk.
One of your 10 questions is to ask: Is what you’re considering investing, speculating or gambling? Please explain the main differences.
With an investment, there’s a reasonable expectation that the return will be positive. There’s a cash-flow component, a dividend yield, interest. Speculation is where there’s disagreement regarding whether the return will be positive or not, particularly because there’s no cash flow. There’s no income stream associated with it. The only way you’ll make money is if it goes up in price. Speculation includes antiques, art work, gold coin.
A gamble is something with a negative expected return that you do to be entertained: a lottery ticket is a gamble, going to a casino is a gamble. There are investments that are tricked-up gambles, such as binary options.
Discussing the question, “How does it impact your portfolio?” you write, “Asset allocation based on Modern Portfolio Theory can give you a false sense of confidence regarding outcomes.” Why?
Invariably it focuses on the expected return as opposed to the range of return, which tends to be ignored. You end up with nested assumptions, and at the end of the day, you get a model — investors become very confident that this is their expected return. They don’t really dig into the assumptions that led to that.
What should you be determining, then?
If we understand what the drivers of an asset class are, the reasonable return, the downside, we can add it to our portfolio without spending a whole lot of time figuring out its correlation to everything else [as with MPT]. We need to just understand if it’s more stock-like, more bond-like or a hybrid, and then add it and see how it behaves.