My father, and his father before him, and several fathers before him, were masons (notice the small “m”). You might call them “bricklayers,” but that would ignore an even greater talent – the ability to build stone walls that would stand tall for centuries, through the rigors of rain, wind, and even the occasional earthquake.
I may not build buildings, but I was nonetheless trained in the fine art of masonry. While I thought the ever-present trowel was a neat toy of a tool, I was taught to respect the symbol of the mason: the mason’s hammer
You might think Thor had it all when it came to hammers, but don’t tell that to a mason. Each end of this special tool presented the opportunity to tune stonework into a harmonic symphony. The blunt end could reduce a rock to dust. The chisel end could chip away at the stone to reveal the perfection hidden within it. And when you just needed to nudge the rock without marring its face, you’d use the butt end of the wooden handle.
It goes without saying that using the wrong end for the wrong job would lead to disaster, as well as more than a few choice obscenities from the supervising mason.
I can’t help but be reminded of the mason’s hammer whenever I consider the true role and function of asset allocation. Regular readers of this column might recall how asset allocation is falsely attributed with being responsible for “93%” of a portfolio’s investment performance.
Furthermore, it surprises many practitioners (perhaps a testament to misdirected professional education programs) to learn asset allocation fails to consistently deliver either short-term or long-term results.
Despite this, there’s hope to be had (see, “The Hows, Whys, and Right and Wrong Way to Use Asset Allocation,” FiduciaryNews.com, June 30, 2015)
Maybe the biggest impediment when using asset allocation (other than that infamous “93-percent” myth) has to be terminology – the usual stumbling block for many things. Is asset allocation meant to reduce risk or improve performance, or both?
Is rebalancing, a popular corollary to asset allocation, supposed to improve performance or reduce risk? And, what exactly is an asset class?
If we break up stocks into large-cap, mid-cap, and small-cap categories, can we also group them by the number of floors in their headquarters building or how new their headquarters building is? (Believe it or not, studies have found performance correlations in all these situations.)
What really saves asset allocation, though, is common sense – knowing which end of the tool to use and when to use it. For example, if you need $20,000 for a down payment on a house and you only have $10,000, you must invest that money in something that will get you to $20,000.
Not all asset classes are capable of accomplishing that in the time you need it done. Likewise, once you have that $20,000, you don’t want to lose it. Only certain asset classes can guarantee your principle will remain unscathed.
If that doesn’t sound like asset allocation, I have only one word for you: “terminology.” But, I’m betting regular investors will understand the simple example I just gave instead of a lecture on “mean variance optimization” or “the Monte Carlo Method.”
I once read a book on dream interpretation. (If you must know, at the time for some reason a lot of people were asking me to interpret their dreams, so I wanted to see if there was anything to what I was telling them.) I don’t remember any of the “rules” regarding what symbols were supposed to mean what.
I do, however, remember this unassuming piece of advice: Have the dreamer reduce his dream to a single sentence. In that quick subject/predicate/object connection lies the core meaning of the dream.
If you try to explain asset allocation in that same way, I think you will find what asset allocation truly represents. It’s not colorful pie charts. It’s not optimizing performance. It’s not combining standard deviations and correlations into a cauldron that conjures up some sage counsel.
No, asset allocation is about common sense. Set a goal. Invest in assets that give you the best chance to attain that goal. Readjust those assets once the goal is achieved.
And that’s one message I can pound home without the aid of my father’s hammer.
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