Chris Arnold, NPR
David Swensen stands on the trading floor at his offices at Yale in a file photo.
Chris Arnold, NPR
Where to Invest Wisely
Yale guru David Swensen uses a basic formula for creating an investment portfolio. He also has suggestions about how to keep the balance in a volatile market. Read his tips.
The turmoil in the stock market has a lot of people nervous about their retirement savings. If only they had David Swensen investing their money.
Swensen manages Yale University's endowment. Last year, he made a 28 percent return, adding a whopping $5 billion to Yale's endowment, which is now valued at $22 billion. And that wasn't a fluke: Over the past two decades, under Swensen's watch, Yale's endowment has grown an average of 16.8 percent a year, more than any university, foundation or pension fund.
In scary economic times like this, he cautions that individual investors shouldn't trust their instincts.
"The human tendency in this kind of environment is to do something — to make a change," he says.
Stocks seem risky, especially since they've been falling. Swensen says most people he talks to get nervous and want to sell stocks.
"And that's exactly the wrong reaction," he says. "Buying high and selling low is not a way to make money. It's not hard, right? It's very simple: You want to do the opposite."
Finding the Right Investment Mix
To share the wealth with everyone, Swensen wrote a book about retirement investing that details his allocation strategies. He advises having the right long-term mix of stock index funds, bonds and real estate investment trusts (see chart below).
But when stocks tank, that mix gets out of balance: For example, U.S. stocks that once constituted 30 percent of a portfolio may now constitute just 29 percent or 28 percent.
When that happens, Swensen rebalances, shifting more holdings into stock index funds. Then, if the market comes back up and ends the day flat — where it started — Swensen sells those stock index funds.
Swensen's ability to buy low and sell high on the market roller coaster has in some instances earned upwards of $1 million in a single day for Yale's endowment — just by rebalancing amidst volatility.
"So you end up at the same place you started, except a million dollars ahead, that's not bad," he says. "But from rebalancing, not speculating — just sticking with your long-term targets."
That's the upside: The stock market can end up flat, but investors still make money because they rebalanced when it was down. Sometimes the market keeps going down. But over time – five, 10 or 20 years — as the market keeps rising, Swensen says, investors can goose out extra returns by rebalancing along the way.
Paying for Investment Advice?
One of the reasons that Swensen can rebalance so frequently is that Yale, like other educational institutions, is tax-exempt. Before attempting to rebalance their portfolios, individual investors need to understand the tax implications of any trades they might make.
Figuring out the right mix of what to own can be tricky. Many people seek out professional advice.
And that's a good idea, says Jim Barnash, the national director of financial planning for Ameriprise Financial. He says in volatile markets like this one, people need quality one-on-one advice to make sure they're properly diversified.
But Ameriprise's advice comes with a price: up to 1.25 percent of the total investment. That means an investor with a half-million dollars invested in a retirement 401K would end up paying about $6,250 a year in fees.
Over 20 years, that person is losing hundreds of thousands of dollars because of fees. Of course, that's better than not investing at all, and a lot of people want an adviser to help them.
But Swensen says most of these investment services provide pretty mediocre advice, and it's just not worth giving them a percentage of your life savings.
"That's the wrong path," Swensen says. "And the reason it's the wrong path is it's a very, very expensive path."
Index Funds or Mutual Funds?
Swensen says fees are also the big reason you should buy index funds instead of classic mutual funds. Index funds, which track market segments like the S&P 500, are a lot cheaper.
Swensen says the vast majority of professional mutual fund managers fail to beat those indexes.
"When you look at the results on an after-fee, after-tax basis over reasonably long periods of time, there's almost no chance that you end up beating an index fund," he says. The odds, he says, are 100 to 1.
Swensen, who cautions against trying to pick individual stocks, favors nonprofit funds like Vanguard and TIAA-CREF. There too, the lower fees will mean more money in your pocket over time.