Facebook: Pay our way or get out
http://tech.fortune.cnn.com/2011/01/28/facebook-pay-our-way-or-get-out/
By Chadwick Matlin, contributor
As Facebook starts to host all sorts of commerce -- and is now mandating the use of its currency -- perhaps it's time to stop thinking of it as a company and start thinking of it as a country.
"The strength of a nation's currency is based on the strength of a nation's economy." Richard Nixon, circa 1971, announcing that foreign governments could no longer convert U.S. dollars into gold.
"If you're a very large company, and supporting you is going to cost us tens of millions of dollars, then we want to at least have an understanding of how you're going to use what we're doing, and that you're not going to just import the data but also contribute back to the ecosystem and make peoples' Facebook experience better." —Mark Zuckerberg, circa 2010, explaining its agreements with social game companies that bring in 30% revenue cuts to Facebook.
Earlier this week, Facebook announced that by July 1 developers that have apps on the site must make their users pay for virtual goods using Facebook's official currency, Facebook Credits. Along with Credits come fees: 30% of every credit spent goes to Facebook.
Smaller developers, of course, aren't pleased. They would rather avoid paying Facebook altogether. Facebook, meanwhile, would rather avoid being a site that confuses its users with dozens of currencies.
At first glance, the move suggests Facebook has become a monetary autocracy, forcing the companies critical to its success to use its currency, and to pay a fee for doing so. But on second thought, isn't that more or less how taxes work? As Facebook grows and starts to host all sorts of commerce, perhaps it's time to stop thinking of the social network as a company. Maybe it's best to think of it as a country.
Imagine, for a moment, that you're the central banker of a country with nearly 600 million residents. Your economy is growing quickly, and the bigger it gets, the more foreign investors are knocking at your door, trying to hawk their wares and build within your borders. Nobody knows how much your economy is actually worth -- some place the GDP at $50 billion, making it the 73rd largest economy in the world, though everyone agrees that your country will be a global force for years to come.
But there's one sector of your economy that won't fall in line. By the end of the year, it'll be worth over a billion dollars and it has proved to be sustainable even during an economic downturn. But a lot of the companies that make up the industry don't want to use the national currency. They'd rather use their own currencies and avoid a hefty 30% tax on all transactions.
But, as a wise central banker, you know that for a country to grow its economy, it needs a singular currency so the proletariat doesn't get confused. You've been able to convince the largest companies to use the national currency, but rogue stragglers remain. What do you do?
Tell them they can either use the currency or get the hell out.
It's a raw deal, but it's one the social game companies can't decline. They're trapped within Facebook for the same reason the rest of us are -- it's still the largest social media site in the world, which means it's also the most powerful. Facebook knows it can force them to pay taxes because there are no other places to earn the kind of money they'll earn within Facebook.
Facebook, already a technological and cultural hegemon, is becoming an economic one as well. A key feature of Facebook's decree is that developers can still use their own currencies; they'll just have to peg the local currency to Facebook Credits.
This, too, should sound familiar. Plenty of foundering countries peg their currencies to the dollar or Euro to help stabilize their economy and encourage trade. Two differences of note:
1. Foreign currencies get pegged to a hegemon's through a de facto process. Facebook's Credits scheme is de jure.
2. Facebook is still forcing the developers to pay taxes, something that, say, Saudi Arabia, doesn't (directly) pay to the U.S.
All of this leads us back to the 30% fee/tax, something that should also sound familiar for another tech hegemon. Apple (AAPL) has established just as strong of a hold on its app market as Facebook's, and largely for the same reasons: it has a critical mass of users, an easy payment system that users trust, and a rule that developers must agree to use Apple's storefront to sell its apps on iPhones, iPods, and iPads. Apple skips the step of translating dollars into its own specialized currency, but the mentality is the same. If a company is going to operate within our borders, they're going to pay us for the privilege.
So to understand what this means for Facebook's future, let's look to the future of Apple. Along with Facebook's announcement this week came an expected and reliable report that the next generation of iPhones will act as credit cards, using iTunes accounts to make all sorts of payments that have nothing to do with iTunes.
If iPhones become credit cards, what's to prevent Facebook from becoming PayPal? Paying friends back online; buying goods from vendors; wiring money as soon as it's needed. That's PayPal, but there's no reason it can't become Facebook, and there's no reason Facebook, with its social features, wouldn't be a better at it.
For that to happen, Facebook Credits has to reach a critical mass. And the only way for Facebook to ensure that happens? By getting its citizens to adopt its currency.
Monday, January 31, 2011
Tuesday, January 11, 2011
CNNFN: Interview with Jack Bogle
From the editors of Money Magazine as an Investor's Guide 2011 feature, this interview by Walter Updegrave with Jack Bogle was recently added to Money.CNN.com on December 31, 2010. It got quite a bit of attention for its headline/one-quote summary "This is the Most Difficult Time to Invest." I am not sure the case was made to warrant that headline, at least not in what was included on the website (albeit, I invest in mutual funds instead of individual stocks, so by that token, cookie-cutter stock selections might be the crux of the quote and I just cannot empathize), but I truly have the utmost respect for both men and, alongside Mo Ansari, I doubt there are three men who have had more influence on my financial mindset (outside of family).
It was a good, quick read, and I have a feeling that I may reference it in my own future entries, so I wanted to include it here.
(MONEY Magazine) -- Great careers in investing often end in tears. A fund manager may run up a string of winning years and then blow it all on one bold bet.
In 1975, Jack Bogle made his own risky move, launching the fund known today as Vanguard 500. The premise was simple but radical: Instead of chasing returns in the latest hot sector -- or trying to pick the unloved stocks that the market will embrace tomorrow -- just buy every blue-chip stock on the market and pay as little as possible to the middlemen.
The venture paid off.
Vanguard, which is owned by its funds' shareholders, in 2010 became the largest mutual fund manager in the country. And the firm's flagship indexers -- 500 and Total Stock -- have both outperformed more than 60% of their peers over 15 years.
Bogle, now 81, retired as Vanguard's senior chairman in 2000, but he's remained a leading advocate for small investors and tough critic of his own industry. (Some of his broadsides are collected in his new book Don't Count on It!)
Even as indexing has triumphed, Bogle says, Wall Street has become more hazardous for individuals trying to build their wealth and save for retirement. "This is the most difficult time to invest in my career," he tells MONEY senior editor Walter Updegrave.
An edited version of their conversation follows.
Why do you say that this is the most difficult time to invest in your entire career?
Well, just look at the dividend yields stocks are offering. We almost don't talk about yields in equities anymore, but yields are a pretty firm anchor for returns. I remember in 1974 writing an annual report saying you really can't go wrong when stocks are yielding 6.5%. Unbelievable!
It's a bad period for this philosophy. In 2008 we had one of the largest cuts in dividends in the history of the S&P 500. Now the dividends don't seem to be coming back, even though the earnings have.
What are the corporations trying to tell us? I don't know. Maybe they're trying to tell you that these earnings are phony, and we don't have money to pay you dividends.
Phony how?
Corporations play games with earnings. I just don't believe them. Operating earnings are always higher than reported earnings after write-offs, because corporations are always making investment decisions that are bad. They always have write-offs and tell us they're "nonrecurring." Except they recur year after year after year.
So what does today's average dividend yield of 2% or so say about future returns?
Our economy grows at about 5% before inflation. So I think we can assume that the economy grows at no more than around 5% a year over the next 10 years, and corporate earnings should grow at about the same rate. Add in the dividend, and you can expect the investment return on stocks to be close to 7% or perhaps 8%. [The long-term return on stocks has been 10%.]
That's if things don't fall totally apart, and I don't think there's any predicting that. I think there's at least a 1-in-15 chance that we'll face even more serious economic problems.
What about bonds?
That's the biggest problem today: There's nowhere to hide. Bond yields at roughly 3% are so poor it's hard to believe. I wouldn't call it a bubble, though, because if you hold for 10 years you will get that 3%.
So what should investors do?
First, don't reach for more than the market return. You could try leverage, or buying commodities and gold. And maybe you'll do well -- but who really knows?
Those alternative investments have no internal return. They are 100% speculation. You are speculating you can sell to someone for more than you paid. They're like stocks that pay you no dividends and offer no earnings growth.
The second thing is to try to give the lowest possible share of what you are going to earn to Wall Street. And that of course means going with the lowest cost.
Those would be index funds. Critics of indexing point to the past decade, when stock index funds like Vanguard 500 have barely broken even. Why would I buy a fund that goes down right along with the market?
That's what all mutual funds do. When the S&P went down 37% in the crash, the average equity fund was down 39%, the average international fund was down 45%, and the average emerging-market fund was down 54%. If you don't want funds that fall with the market, why would you buy any of them?
Index investing assumes markets are rational and "efficient" -- meaning prices reflect everything the market knows. But hasn't the financial crisis taught us that markets can act irrationally?
You don't need the efficient-market theory to justify indexing. Indexing wins whether markets are efficient or inefficient. In an inefficient market, a good manager may be able to win by five percentage points a year over a decade.
But by definition, a bad manager must lose by the same amount. It all has to average out. So even if the market is very inefficient, the index will still capture your share of the market return.
So I don't rely on the efficient-markets hypothesis. I go by the "cost matters" hypothesis: Whatever the market returns, on average you will beat your rivals if you lower your costs. And that's what index funds do. I know I can sound like a Johnny One Note on this, but somebody, please tell me that I'm wrong.
But cost matters only if I'm getting the average return. What about the investors who can do better?
Well, if you're not indexing, you've got problems. First, a stock selection problem -- maybe you'll pick good stocks, maybe you won't. Then a market sector problem -- will growth do better than value? Finally a manager selection problem, which is the worst because the only way people have found to pick good managers is to look at past performance. That's not a reliable gauge.
Indexing has become even more popular lately thanks to exchange-traded funds. Good thing?
There's no denying ETFs are one of the great marketing ideas of this decade. The question is whether they're a good investment idea. They give you the ability to trade all day long in real time.
But if you want to trade anything frequently -- all the market sectors, different countries, portfolios that offer three times as much on the upside or the downside -- that's turning investing into a casino.
I like the Vanguard Total Stock Market mutual fund, but if you want to buy the ETF version of it and hold it for a long, long time, up to forever, how could I argue against that?
The trouble is, when you buy something for the short term, or something that's concentrated as distinct from something diversified, that's really speculating, which is a loser's game.
Besides the lousy stock and bond yields, how else has investing changed over your 60-year career?
We've moved from the wisdom of long-term investing to the folly of short-term speculation. When I wrote my senior thesis in college, turnover in the stock exchange [a measure of how frequently shares are traded] was about 20% a year, and now it's so high there's not really any point in counting it.
Mutual funds had a redemption rate of 8%, meaning investors had a holding period of 12 years. Now it's a three-year holding period. And we have this appalling thing where 40% of the mutual funds that were in business 10 years ago are gone.
How the heck can you capitalize on the wisdom of long-term investing when the odds are almost one out of two your fund won't be here at the end of the decade?
But can investors afford to just buy and hold their investments? Sometimes certain sectors, or the whole market, can seem wildly overvalued. Let's just think about the stock market for a moment.
We're all buy-and-hold investors because collectively we all own the market. So, as a group, investors are buying and holding. The only question is: Can I out-trade the other guy? Am I really smarter than the guy I'm selling Microsoft to or planning to buy it from?
Well, one of you is going to prove to be smarter. And I'd say that was a flip of the coin -- except for the cost of trading.
And how many funds do you think someone needs in this buy-and-hold stock and bond portfolio?
Well, the answer is so counterintuitive to the way people think. You can do it with one fund, a balanced fund that's 60% stocks and 40% bonds.
Another simple strategy is a target-date fund, in which you get more bond exposure as you get older. But you don't need to put your money into eight different mutual funds.
You didn't mention international funds. You don't need them, but if you think you do, invest up to 20% in international index funds. My reasoning: The S&P 500 is dominated by international companies.
So you're already international. I think it's always the best bet that the U.S., foreign developed markets, and emerging markets will have the same return over the long run. Because markets aren't stupid. So if emerging markets have all this potential we read about, that's in today's price.
You often cite a pretty conservative rule of thumb: Own your age in bonds, meaning 60% of your portfolio if you're 60 years old. Is that still true, given the low yields?
It's a very rough guide just to start you thinking about the problem. When you retire, you start to rely on investment capital rather than your human capital. And you've got more wealth at stake and less time to recoup it, which means you're going to take these fluctuations more seriously.
I think I can speak for other people in their antique years -- you get more nervous. The bond position means you're less sensitive to behavioral factors. It gives you an anchor to windward.
It was a good, quick read, and I have a feeling that I may reference it in my own future entries, so I wanted to include it here.
(MONEY Magazine) -- Great careers in investing often end in tears. A fund manager may run up a string of winning years and then blow it all on one bold bet.
In 1975, Jack Bogle made his own risky move, launching the fund known today as Vanguard 500. The premise was simple but radical: Instead of chasing returns in the latest hot sector -- or trying to pick the unloved stocks that the market will embrace tomorrow -- just buy every blue-chip stock on the market and pay as little as possible to the middlemen.
The venture paid off.
Vanguard, which is owned by its funds' shareholders, in 2010 became the largest mutual fund manager in the country. And the firm's flagship indexers -- 500 and Total Stock -- have both outperformed more than 60% of their peers over 15 years.
Bogle, now 81, retired as Vanguard's senior chairman in 2000, but he's remained a leading advocate for small investors and tough critic of his own industry. (Some of his broadsides are collected in his new book Don't Count on It!)
Even as indexing has triumphed, Bogle says, Wall Street has become more hazardous for individuals trying to build their wealth and save for retirement. "This is the most difficult time to invest in my career," he tells MONEY senior editor Walter Updegrave.
An edited version of their conversation follows.
Why do you say that this is the most difficult time to invest in your entire career?
Well, just look at the dividend yields stocks are offering. We almost don't talk about yields in equities anymore, but yields are a pretty firm anchor for returns. I remember in 1974 writing an annual report saying you really can't go wrong when stocks are yielding 6.5%. Unbelievable!
It's a bad period for this philosophy. In 2008 we had one of the largest cuts in dividends in the history of the S&P 500. Now the dividends don't seem to be coming back, even though the earnings have.
What are the corporations trying to tell us? I don't know. Maybe they're trying to tell you that these earnings are phony, and we don't have money to pay you dividends.
Phony how?
Corporations play games with earnings. I just don't believe them. Operating earnings are always higher than reported earnings after write-offs, because corporations are always making investment decisions that are bad. They always have write-offs and tell us they're "nonrecurring." Except they recur year after year after year.
So what does today's average dividend yield of 2% or so say about future returns?
Our economy grows at about 5% before inflation. So I think we can assume that the economy grows at no more than around 5% a year over the next 10 years, and corporate earnings should grow at about the same rate. Add in the dividend, and you can expect the investment return on stocks to be close to 7% or perhaps 8%. [The long-term return on stocks has been 10%.]
That's if things don't fall totally apart, and I don't think there's any predicting that. I think there's at least a 1-in-15 chance that we'll face even more serious economic problems.
What about bonds?
That's the biggest problem today: There's nowhere to hide. Bond yields at roughly 3% are so poor it's hard to believe. I wouldn't call it a bubble, though, because if you hold for 10 years you will get that 3%.
So what should investors do?
First, don't reach for more than the market return. You could try leverage, or buying commodities and gold. And maybe you'll do well -- but who really knows?
Those alternative investments have no internal return. They are 100% speculation. You are speculating you can sell to someone for more than you paid. They're like stocks that pay you no dividends and offer no earnings growth.
The second thing is to try to give the lowest possible share of what you are going to earn to Wall Street. And that of course means going with the lowest cost.
Those would be index funds. Critics of indexing point to the past decade, when stock index funds like Vanguard 500 have barely broken even. Why would I buy a fund that goes down right along with the market?
That's what all mutual funds do. When the S&P went down 37% in the crash, the average equity fund was down 39%, the average international fund was down 45%, and the average emerging-market fund was down 54%. If you don't want funds that fall with the market, why would you buy any of them?
Index investing assumes markets are rational and "efficient" -- meaning prices reflect everything the market knows. But hasn't the financial crisis taught us that markets can act irrationally?
You don't need the efficient-market theory to justify indexing. Indexing wins whether markets are efficient or inefficient. In an inefficient market, a good manager may be able to win by five percentage points a year over a decade.
But by definition, a bad manager must lose by the same amount. It all has to average out. So even if the market is very inefficient, the index will still capture your share of the market return.
So I don't rely on the efficient-markets hypothesis. I go by the "cost matters" hypothesis: Whatever the market returns, on average you will beat your rivals if you lower your costs. And that's what index funds do. I know I can sound like a Johnny One Note on this, but somebody, please tell me that I'm wrong.
But cost matters only if I'm getting the average return. What about the investors who can do better?
Well, if you're not indexing, you've got problems. First, a stock selection problem -- maybe you'll pick good stocks, maybe you won't. Then a market sector problem -- will growth do better than value? Finally a manager selection problem, which is the worst because the only way people have found to pick good managers is to look at past performance. That's not a reliable gauge.
Indexing has become even more popular lately thanks to exchange-traded funds. Good thing?
There's no denying ETFs are one of the great marketing ideas of this decade. The question is whether they're a good investment idea. They give you the ability to trade all day long in real time.
But if you want to trade anything frequently -- all the market sectors, different countries, portfolios that offer three times as much on the upside or the downside -- that's turning investing into a casino.
I like the Vanguard Total Stock Market mutual fund, but if you want to buy the ETF version of it and hold it for a long, long time, up to forever, how could I argue against that?
The trouble is, when you buy something for the short term, or something that's concentrated as distinct from something diversified, that's really speculating, which is a loser's game.
Besides the lousy stock and bond yields, how else has investing changed over your 60-year career?
We've moved from the wisdom of long-term investing to the folly of short-term speculation. When I wrote my senior thesis in college, turnover in the stock exchange [a measure of how frequently shares are traded] was about 20% a year, and now it's so high there's not really any point in counting it.
Mutual funds had a redemption rate of 8%, meaning investors had a holding period of 12 years. Now it's a three-year holding period. And we have this appalling thing where 40% of the mutual funds that were in business 10 years ago are gone.
How the heck can you capitalize on the wisdom of long-term investing when the odds are almost one out of two your fund won't be here at the end of the decade?
But can investors afford to just buy and hold their investments? Sometimes certain sectors, or the whole market, can seem wildly overvalued. Let's just think about the stock market for a moment.
We're all buy-and-hold investors because collectively we all own the market. So, as a group, investors are buying and holding. The only question is: Can I out-trade the other guy? Am I really smarter than the guy I'm selling Microsoft to or planning to buy it from?
Well, one of you is going to prove to be smarter. And I'd say that was a flip of the coin -- except for the cost of trading.
And how many funds do you think someone needs in this buy-and-hold stock and bond portfolio?
Well, the answer is so counterintuitive to the way people think. You can do it with one fund, a balanced fund that's 60% stocks and 40% bonds.
Another simple strategy is a target-date fund, in which you get more bond exposure as you get older. But you don't need to put your money into eight different mutual funds.
You didn't mention international funds. You don't need them, but if you think you do, invest up to 20% in international index funds. My reasoning: The S&P 500 is dominated by international companies.
So you're already international. I think it's always the best bet that the U.S., foreign developed markets, and emerging markets will have the same return over the long run. Because markets aren't stupid. So if emerging markets have all this potential we read about, that's in today's price.
You often cite a pretty conservative rule of thumb: Own your age in bonds, meaning 60% of your portfolio if you're 60 years old. Is that still true, given the low yields?
It's a very rough guide just to start you thinking about the problem. When you retire, you start to rely on investment capital rather than your human capital. And you've got more wealth at stake and less time to recoup it, which means you're going to take these fluctuations more seriously.
I think I can speak for other people in their antique years -- you get more nervous. The bond position means you're less sensitive to behavioral factors. It gives you an anchor to windward.
Stock-picking pros aren't stupid. They're just expensive.
Saturday, January 1, 2011
Double Bubble Trouble
Happy New Year!
If I could suggest one New Year's Resolution to the world (at least the English-speaking portion of it), it would be for everyone to find another insult to replace "retard" in all forms. That word is very offensive to actual politicians.
But seriously, if you were an investor who was slammed 10 years ago by the Tech stock bubble and/or a buyer who was slammed by the housing bubble a few years ago, then odds are that you're considering investments in either bonds or gold for this year.
Honestly, it's quite interesting to me because I'm not sure which one is going to pop. Most experts expect bonds to have a below-par 2011. For some reason, I was leaning towards gold and precious metals as the next bubble to burst. Then, I considered the unique possibility that 2011 could see a "double bubble." If there's ever been a scenario like it in the past, then it was before I had a portfolio (maybe even before I had a savings account), so it would all be new to me, but so much has changed in the past 20 years that a lot of scenarios that seasoned investors or financial experts would dismiss as "unfeasible" could have a higher probability than mere potential.
I started in the financial industry in June 2000. By October, I had a stable entry-level job servicing retirement plans, at which point I noticed an in-flow of participants moving to bonds because the performance of stocks were horrid. Bonds were more than holding their own, in fact it would be fair to say they were flourishing. But easy $ come, easy $ go, and bonds retreated. Hard. Nothing like the year-end returns from stocks in 2008, but for a more conservative investment, any loss is amplified.
Therefore, I remembered that fact when the market crashed in October 2008, so I focused a larger portion of my holdings into bonds the next year. Not because of their superior returns at the time (a mild 5%), but to create a solid hedge for my asset allocation. Additionally, I boosted my payroll deferral percentage (PDP) and one year after February 10, 2009, the date of my first financial blog entry, my 401(k) balance had doubled. More than doubled.
Honestly, 2010 wasn't too shabby for my 401(k) either. Of all the funds offered in my 401(k), one of my funds was the second highest performing fund! And it wasn't a fund where I hold 5% or 10%. It was my fund where I allocate 30%.
Having seen one full cycle first hand already, I feel better equipped to make the right choices in future markets. What's the "right choice" in terms of investing? Knowing yourself and how you will react to the rises and falls to invest in vehicles with the most bearable risk. Obviously, more press is given when the markets react negatively so it seems like more mistakes are made then, but I think the rising markets bring out more stupidity (if not more, then just as much).
For me, investing in individual stocks is out for me. I'm too loyal. I'm too conservative. And quite simply, I don't like paying fees (including taxes) on my strategic moves. Besides, I don't need them. There's a lot of negativity towards "buy & hold," but I think that's misleading. "Buy & hold" is still an extremely effective strategy. It's just that instead of buying and holding one company's stock ("hold-and-hope" as Mo Ansari would say), you need an "all-in-one" mutual fund that will do complex investing for you.
This is where age-appropriate retirement funds excel. If you want to "buy & hold," or "get & forget," then find a fund with your retirement year and buy that fund. If your actual retirement year is in between two available funds, then you can buy the two closest funds. One thing to avoid is buying more than two of these funds! These mutual funds are "funds of funds," which is to say that they are a mutual fund investing in other mutual funds, which are the ones with the individual holdings.
Let's take a quick look at these levels of investment. First come individual stocks, and everyone should know what they are. They are publicly companies traded on the stock market, so when you think of "Corporate America," these companies come to mind. Almost every chain retail store is traded on the market either under its own name or through its parent company. Shares of ownership trade in units of stock. To have a diversified stock portfolio, you would have to invest in dozens of different companies to cover several industries of business, and that does not even include bonds.
Conversely, mutual funds exist as a single investment where a group of investors have pooled their money together in order to have a professionally managed stock portfolio invested in several dozen companies. The benefit is that each dollar stretches a lot further than it would outside of the mutual fund. Without mutual funds, you need to invest $400 to own a single unit of stock in 10 different companies each priced at $40 (and that's negating any other costs, as well as the uselessness of owning a single share in a company). With mutual funds, you invest in infinitely more companies with less money upfront.
Another type of mutual fund available are indexed mutual funds. They are basically the same thing, sans the professional management. Instead of relying on a fund manager's expertise (i.e. "intuition"), the fund manager uses the money to mirror an index, like the S&P 500 Index for example, so if one of the 500 largest companies in America today falls in value tomorrow, the fund manager will sell that stock and invest in today's 501st largest company tomorrow. Vanguard founder John Bogle championed index funds as "the only investment that guarantees you will capture your fair share of the returns that business earns." Note the underlined text, because these funds eliminate any opportunity to "beat the market." Small price to pay, in my opinion, for an investment eliminating the risks of individual stocks, market sectors, and manager selection, so that only market risk remains.
Even indexed mutual funds come in many different forms, each with an intentionally different purpose. There are indexed mutual funds for bonds just like there are indexed mutual funds for stocks. There are separate mutual funds for small-cap markets, large-cap markets, and mid-cap market. Therefore, investing in a single mutual fund would not fully diversify your portfolio.
Enter "all-in-one" or "fund of funds" mutual funds. These funds exist as a single investment where the fund manager invests in several different mutual funds. The most popular (and arguably, most successful) funds-of-funds are "balanced" funds invested in both stocks and bonds. In short, the fund managers would be required to maintain a set allocation, such as investing 70% in stocks and 30% in bonds. Therefore, the focus of these funds is on the asset allocation of its investments, which, after full consideration to both time and money, is the most successful way to invest.
The most popular forms of "all-in-one" mutual funds today are age-appropriate retirement funds. These are so popular that Congress has recently approved their assignment as the default fund in qualified retirement plans. This is a huge shift from the previous requirement of having a stable money market as the default fund. Instead of a guaranteed return protected against losses, this fund invests money in such a sophisticated manner that as retirement approaches, the fund itself becomes a more conservative and less risky investment.
Having these funds as a default fund has its pluses and minuses. If you were a 25-year-old whose first corporate job lasted only 2 years, then you may have a 401(k) in which you put 4% of your money with a 50% match on the first 3% and if, knowing nothing about investing, you were placed in a Target Retirement fund, then you could be looking at a 401(k) where you put in $500 of your own money and got $400 back in February 2009.
So my only problem with these "all-in-one" funds as a default fund is that investing could be grossly misrepresented to an unsophisticated investor by one bad situation. Otherwise, these funds are true gems! If "buy-and-hold" (or "get-and-forget") is all the more effort you can put into your portfolio, then this investment is perfect for you! Just be aware that risk exists in these investments so losing in the market is almost as likely as gaining. Also, and almost equally importantly, be aware that these funds will be invested in an identical fashion to recommendations from a seasoned professional if you were able to pay someone hundreds of dollars each year for that amount of attention.
For the record, the strongest argument against my cited issue with these funds as a default fund in qualified plans is that the person in my above example could have gotten $1,000 or more back in February 2010 by working 3 years instead of 2, and then that person would be more likely (maybe even motivated) to invest in a qualified plan at the next job. I believe this argument is how its supporters got these funds approved by Congress, and it is perfectly valid.
Compare this investor who did nothing (except NOT cancel his/her participation in the qualified plan at work) and gained 100% to an investor who heard about the .com stocks and moved into a tech fund just in time for it to fall 50% and then heard real estate was on the rise and moved into a REIT fund just in time for it to retreat. Now, that investor has probably heard that gold is on the rise. Guess where that is headed in 2011.
Abhay Deshpande (First Eagle Investment Management) voiced his guess on a recent Money.CNN.com article: "We have no view on the future direction of the price of gold. Generally speaking, in a fiat-money world we believe it's almost a mathematical identity that the value of gold will go up. Gold ETFs, such as GLD (GLD), have of course risen. GLD may be the fifth-largest holder of gold in the world, after the central banks of the world. So people from the ground up have chosen to put some of their reserves in gold as a hedge against the currency. To me, it doesn't feel like speculation like in the late 1990s with Internet stocks, or the credit bubble. This seems to be rational behavior. Whether we're ahead of ourselves temporarily or not, I have no clue. What we've said for ages is keep 5% to 10% of your assets in gold, just in case."
Although, James Swanson (MFS Investment Management) quickly voiced concern with maintaining any percent of assets in gold: "(Presume I pay) $1,400 for gold today because I hope someone will pay more for it next year. And what will they do with it? They hope someone else will (pay more). Eventually you end up with a psychological asset class that I'm not comfortable with. Even if they're devaluing the currencies of the world, you have to ask yourself, where does this end? And I do know the price can fall. It does when the Fed funds rate rises above 2%. So I'm not a fan of gold. I don't know how to value it."
We will know the reality of what the 2011 markets were like in 365 more days, but whether the DOW is up or down (I think it will be up less than 10% myself), successful investing is measured in years and decades. I myself just happen to enjoy watching the day-to-day. I will have a quarterly update in mid-February!
Ref: http://features.blogs.fortune.cnn.com/2010/12/13/5-experts-where-to-invest-in-2011/
If I could suggest one New Year's Resolution to the world (at least the English-speaking portion of it), it would be for everyone to find another insult to replace "retard" in all forms. That word is very offensive to actual politicians.
But seriously, if you were an investor who was slammed 10 years ago by the Tech stock bubble and/or a buyer who was slammed by the housing bubble a few years ago, then odds are that you're considering investments in either bonds or gold for this year.
Honestly, it's quite interesting to me because I'm not sure which one is going to pop. Most experts expect bonds to have a below-par 2011. For some reason, I was leaning towards gold and precious metals as the next bubble to burst. Then, I considered the unique possibility that 2011 could see a "double bubble." If there's ever been a scenario like it in the past, then it was before I had a portfolio (maybe even before I had a savings account), so it would all be new to me, but so much has changed in the past 20 years that a lot of scenarios that seasoned investors or financial experts would dismiss as "unfeasible" could have a higher probability than mere potential.
I started in the financial industry in June 2000. By October, I had a stable entry-level job servicing retirement plans, at which point I noticed an in-flow of participants moving to bonds because the performance of stocks were horrid. Bonds were more than holding their own, in fact it would be fair to say they were flourishing. But easy $ come, easy $ go, and bonds retreated. Hard. Nothing like the year-end returns from stocks in 2008, but for a more conservative investment, any loss is amplified.
Therefore, I remembered that fact when the market crashed in October 2008, so I focused a larger portion of my holdings into bonds the next year. Not because of their superior returns at the time (a mild 5%), but to create a solid hedge for my asset allocation. Additionally, I boosted my payroll deferral percentage (PDP) and one year after February 10, 2009, the date of my first financial blog entry, my 401(k) balance had doubled. More than doubled.
Honestly, 2010 wasn't too shabby for my 401(k) either. Of all the funds offered in my 401(k), one of my funds was the second highest performing fund! And it wasn't a fund where I hold 5% or 10%. It was my fund where I allocate 30%.
Having seen one full cycle first hand already, I feel better equipped to make the right choices in future markets. What's the "right choice" in terms of investing? Knowing yourself and how you will react to the rises and falls to invest in vehicles with the most bearable risk. Obviously, more press is given when the markets react negatively so it seems like more mistakes are made then, but I think the rising markets bring out more stupidity (if not more, then just as much).
For me, investing in individual stocks is out for me. I'm too loyal. I'm too conservative. And quite simply, I don't like paying fees (including taxes) on my strategic moves. Besides, I don't need them. There's a lot of negativity towards "buy & hold," but I think that's misleading. "Buy & hold" is still an extremely effective strategy. It's just that instead of buying and holding one company's stock ("hold-and-hope" as Mo Ansari would say), you need an "all-in-one" mutual fund that will do complex investing for you.
This is where age-appropriate retirement funds excel. If you want to "buy & hold," or "get & forget," then find a fund with your retirement year and buy that fund. If your actual retirement year is in between two available funds, then you can buy the two closest funds. One thing to avoid is buying more than two of these funds! These mutual funds are "funds of funds," which is to say that they are a mutual fund investing in other mutual funds, which are the ones with the individual holdings.
Let's take a quick look at these levels of investment. First come individual stocks, and everyone should know what they are. They are publicly companies traded on the stock market, so when you think of "Corporate America," these companies come to mind. Almost every chain retail store is traded on the market either under its own name or through its parent company. Shares of ownership trade in units of stock. To have a diversified stock portfolio, you would have to invest in dozens of different companies to cover several industries of business, and that does not even include bonds.
Conversely, mutual funds exist as a single investment where a group of investors have pooled their money together in order to have a professionally managed stock portfolio invested in several dozen companies. The benefit is that each dollar stretches a lot further than it would outside of the mutual fund. Without mutual funds, you need to invest $400 to own a single unit of stock in 10 different companies each priced at $40 (and that's negating any other costs, as well as the uselessness of owning a single share in a company). With mutual funds, you invest in infinitely more companies with less money upfront.
Another type of mutual fund available are indexed mutual funds. They are basically the same thing, sans the professional management. Instead of relying on a fund manager's expertise (i.e. "intuition"), the fund manager uses the money to mirror an index, like the S&P 500 Index for example, so if one of the 500 largest companies in America today falls in value tomorrow, the fund manager will sell that stock and invest in today's 501st largest company tomorrow. Vanguard founder John Bogle championed index funds as "the only investment that guarantees you will capture your fair share of the returns that business earns." Note the underlined text, because these funds eliminate any opportunity to "beat the market." Small price to pay, in my opinion, for an investment eliminating the risks of individual stocks, market sectors, and manager selection, so that only market risk remains.
Even indexed mutual funds come in many different forms, each with an intentionally different purpose. There are indexed mutual funds for bonds just like there are indexed mutual funds for stocks. There are separate mutual funds for small-cap markets, large-cap markets, and mid-cap market. Therefore, investing in a single mutual fund would not fully diversify your portfolio.
Enter "all-in-one" or "fund of funds" mutual funds. These funds exist as a single investment where the fund manager invests in several different mutual funds. The most popular (and arguably, most successful) funds-of-funds are "balanced" funds invested in both stocks and bonds. In short, the fund managers would be required to maintain a set allocation, such as investing 70% in stocks and 30% in bonds. Therefore, the focus of these funds is on the asset allocation of its investments, which, after full consideration to both time and money, is the most successful way to invest.
The most popular forms of "all-in-one" mutual funds today are age-appropriate retirement funds. These are so popular that Congress has recently approved their assignment as the default fund in qualified retirement plans. This is a huge shift from the previous requirement of having a stable money market as the default fund. Instead of a guaranteed return protected against losses, this fund invests money in such a sophisticated manner that as retirement approaches, the fund itself becomes a more conservative and less risky investment.
Having these funds as a default fund has its pluses and minuses. If you were a 25-year-old whose first corporate job lasted only 2 years, then you may have a 401(k) in which you put 4% of your money with a 50% match on the first 3% and if, knowing nothing about investing, you were placed in a Target Retirement fund, then you could be looking at a 401(k) where you put in $500 of your own money and got $400 back in February 2009.
So my only problem with these "all-in-one" funds as a default fund is that investing could be grossly misrepresented to an unsophisticated investor by one bad situation. Otherwise, these funds are true gems! If "buy-and-hold" (or "get-and-forget") is all the more effort you can put into your portfolio, then this investment is perfect for you! Just be aware that risk exists in these investments so losing in the market is almost as likely as gaining. Also, and almost equally importantly, be aware that these funds will be invested in an identical fashion to recommendations from a seasoned professional if you were able to pay someone hundreds of dollars each year for that amount of attention.
For the record, the strongest argument against my cited issue with these funds as a default fund in qualified plans is that the person in my above example could have gotten $1,000 or more back in February 2010 by working 3 years instead of 2, and then that person would be more likely (maybe even motivated) to invest in a qualified plan at the next job. I believe this argument is how its supporters got these funds approved by Congress, and it is perfectly valid.
Compare this investor who did nothing (except NOT cancel his/her participation in the qualified plan at work) and gained 100% to an investor who heard about the .com stocks and moved into a tech fund just in time for it to fall 50% and then heard real estate was on the rise and moved into a REIT fund just in time for it to retreat. Now, that investor has probably heard that gold is on the rise. Guess where that is headed in 2011.
Abhay Deshpande (First Eagle Investment Management) voiced his guess on a recent Money.CNN.com article: "We have no view on the future direction of the price of gold. Generally speaking, in a fiat-money world we believe it's almost a mathematical identity that the value of gold will go up. Gold ETFs, such as GLD (GLD), have of course risen. GLD may be the fifth-largest holder of gold in the world, after the central banks of the world. So people from the ground up have chosen to put some of their reserves in gold as a hedge against the currency. To me, it doesn't feel like speculation like in the late 1990s with Internet stocks, or the credit bubble. This seems to be rational behavior. Whether we're ahead of ourselves temporarily or not, I have no clue. What we've said for ages is keep 5% to 10% of your assets in gold, just in case."
Although, James Swanson (MFS Investment Management) quickly voiced concern with maintaining any percent of assets in gold: "(Presume I pay) $1,400 for gold today because I hope someone will pay more for it next year. And what will they do with it? They hope someone else will (pay more). Eventually you end up with a psychological asset class that I'm not comfortable with. Even if they're devaluing the currencies of the world, you have to ask yourself, where does this end? And I do know the price can fall. It does when the Fed funds rate rises above 2%. So I'm not a fan of gold. I don't know how to value it."
We will know the reality of what the 2011 markets were like in 365 more days, but whether the DOW is up or down (I think it will be up less than 10% myself), successful investing is measured in years and decades. I myself just happen to enjoy watching the day-to-day. I will have a quarterly update in mid-February!
Ref: http://features.blogs.fortune.cnn.com/2010/12/13/5-experts-where-to-invest-in-2011/
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