What is a Balanced Portfolio?
Everybody is a genius. But, if you judge a fish by its ability to climb a tree, it will spend its whole life believing that it is stupid.
Last week I wrote about what it would take to get me to invest in the markets again. My friend Jim Yih challenged me with a really great question in the comments section and I promised to answer it in full this week. I’ve heard the same question on occasion from others as well, so I’ll do my best to address it today.
I’m not currently invested in any stocks or bonds except for a small position in an inverse ETF. I won’t go over my rationale again, as I’ve covered it pretty well already. The question is basically the following: How can a Balance Junkie have an all cash portfolio? You have to have a mix of stocks, bonds, and cash in order to have a balanced portfolio, right? I hate to answer a question with more questions but . . . 😉
Are Diversified and Balanced the Same Thing?
How diversified does your portfolio have to be in order to be considered balanced? I suppose that mathematically, a truly balanced portfolio would include 33% stocks, 33% bonds, and 33% cash. Does that mean that’s the only right asset allocation if you want to be able to tell anyone that you have a balanced portfolio? Is everybody else wrong?
A retired person might very well have a portfolio that is 50% bonds and 50% cash. Another retired person might have 40% stocks, 40% bonds, and 20% cash. A 30-something mom might have 75% stocks, 15% bonds and 10% cash. Another 30-something mom might have 75% bonds, 15% stocks and 10% cash. Are these portfolios balanced? Who says so?
What’s Wrong With Being a Cashetarian?
Many people hold to their religious beliefs very firmly, excluding the philosophies of the other major religions from their lives. Are Christians unbalanced because they don’t embrace Buddhism, Judaism, or all the other great “isms”? Are atheists immoral or unspiritual because they checked the “none of the above box” in the religion section? Is my portfolio unbalanced because I checked the “none of the above” box on stocks and bonds? Who says so?
I eat almost no meat. I’m mostly a vegetarian. Does that mean I can’t be a Balance Junkie? I think I can still have a balanced diet without meat. It works for me and I’m happy and (touch wood) healthy.
I mostly invest in cash right now. I guess you could say I’m a cashetarian. Does that mean I don’t have a balanced portfolio? My savings are growing and I can sleep at night. The market could fall 50% or more over the next 6 months and it wouldn’t hurt my retirement savings. I think I can have a balanced portfolio without stocks or bonds. How?
It’s All About the Fulcrum
Let’s briefly look at a simple balancing mechanism similar to a teeter totter. You basically have a plank balanced on some kind of pointy thing. There are two main ways to make that plank balance:
- You can add or remove weight on the left side.
- You can add or remove weight on the right side.
But there’s a third way. Many people assume the pointy thing, which is called the fulcrum, is fixed. Who says so? That’s the third way: You can move the fulcrum in order to make the plank balance.
What does any of this have to do with asset allocation, portfolio balance, or life balance? Whether you’re talking about the financial, physical, spiritual or psychological quadrant of your life balance sheet, it’s all about the fulcrum. Your centre point may not be the same as mine in any or all of these areas. We’re all different.
That’s what makes the world work so beautifully. Without that diversity, our society would be unbalanced. If you step back and take a bigger view of the world, my 100% cash allocation balances out my friend’s 100% stock allocation. In fact, I could make a pretty decent argument for the idea that too much money moving toward the same asset allocation has caused our financial system to become unbalanced as everyone shifts to one side of the boat or the other all at once.
Balance Is the New Old Black
Balance is the most basic principle in science, economics and life. It’s the default setting. It’s the original black. For every buyer, there’s a seller. For every gifted mathematician, there’s a brilliant musician. You get the picture. There’s more than one way to achieve balance in any area. In fact, there are probably thousands of ways.
In many ways, we’ve strayed from allowing nature to take its course. We’ve upset the balance in nature by polluting the environment. We’ve upset the balance in the economy by tinkering with it to the point that it no longer works the way it’s supposed to. Herding behaviour has increased so remarkably in global markets that diversification is nearly useless. Innovation is a good thing, as long as it doesn’t upset the balance.
Some of our actions have done just that, and some of us are gradually awakening to the idea that not all changes lead to real progress. As we come to realize that some of these innovations have not advanced society, many of us will return to the principles that worked in the past. Dare to be different. Who knows? Maybe balance will become the new black – again.
What Does It Take to Be a Balance Junkie?
Some financial blogs spend a lot of time telling people what the right way to invest is. The more mainstream sites will tell you to hold a balanced portfolio of stocks and bonds, ride out the ups and downs, and retire wealthy after about 40 years of investing. Some of them scoff at any other way of doing it, but I would venture a guess that none of them would guarantee any level of returns to you.
At Balance Junkie, there’s room for all approaches. Any idea that has any basis in fact and causes no harm to anyone else is welcome here. I keep simple kindergarten classroom rules, although I’ve never had to enforce them. Somehow this blog has attracted some of the most insightful, classy contributors out there. Thanks to all of you. I hope you’ll keep asking the tough questions. Maybe if we put our heads together we can answer some of them and learn something new while we’re at it. 😉
I started out answering a question on asset allocation and ended up writing a manifesto for Balance Junkie. What do you think?