Indexers are terrible at indexing

Cartoon Humor Concept Illustration of Couch Potato Saying or Proverb

Despite all of the evidence that low-cost passive investing outperforms actively managed portfolios, many investors still cling to the belief that an active approach can help steer them through turbulent times in the market.

Even investors who have taken the plunge into index funds and ETFs can’t help themselves when faced with uncertainty. Emotions take over, as do our instincts to tinker with our investments to try and optimize performance.

Earlier this month, Dan Bortolotti updated the investment returns from the ever-popular Canadian Couch Potato model portfolios.

Despite Dan’s best efforts to explain that these new and simplified portfolios should be used as part of a long-term investment strategy, the overwhelming number of comments from readers suggests that it’s nearly impossible for indexers to simply set-it and forget it.

Here are some of the questions that index investors asked Dan in the comments section:

I’m worried

I plan to retire in about 5 years so my question is; in this market when should I buy in? Is now a good time or should I wait some more? I know it’s impossible to identify a market bottom but I’m worried about buying in and having my equities drop 10-15%.

I’m waiting for the bottom

If it was you and you were sitting on some cash, would you invest in the Vanguard ETF portfolio now or wait and watch for some further downturn in the markets?

I don’t have a crystal ball, can I look through yours?

I am ready to implement your Vanguard couch potato methodology. Realizing that no one knows what is going to happen in the market tomorrow, so to speak, would it be best to implement the portfolio now or wait until oil settles down?

I read too much

Given how the start of 2016 has been, how much should I be paying attention to the bear-ish news that has been coming out?

Am I crazy?

I know I cannot try to time the markets, and I have told myself over and over to just invest and forget it, but am I crazy to do this at the moment? I don’t know enough about the markets to know if there are any key dates in the next week or month that could affect anything? Is 25% in Canadian index a bad move if I am sinking a large chunk of money in my portfolio right now?

I’m bullish on the Canadian dollar

Investing a large amount now in a non-currency neutral US index fund seems risky since there could be much more room in the future for the Canadian dollar to move higher – and stay higher for a long time – rather than move down from where it is currently.

I’m locking in currency gains

For investors who have used currency hedging to date but now want to permanently drop this practice, would it be a bad time now (with a 68 cent Canadian dollar) to switch their investments over to non-hedged?

I’m staying the course … I think

The Tangerine Equity Portfolio has been hit hard this year so far, especially with a maxed-out TFSA. But I guess just stay the course and don’t panic … right …RIGHT!??

Tell us what to do, Potato Man

When can we expect to see CCP’s 2016 model portfolios?


Love the site. When will 2016 model portfolios be published?

Me? I’m burying gold in the backyard and stocking up for the end of days

I’m intrigued as to what your recommendations are, going forward into 2016 where it seems likely the giant equity gains we’ve seen over the past 8 years, are likely to be very much muted now the QE bull is truly dead. Are you thinking to operate much the same and just accept the lower % gains or that the fundamentals of indexing will need to change to try and find yield?

Investing is hard

Indexing is certainly easier than picking individual stocks but it’s hardly a hands-off way to invest. There’s the tricky yet crucial act of rebalancing, either by adding new money or shifting assets to get back to a target allocation.

Rebalancing is counterintuitive, as it often means selling your winners and adding more money to your losers. Andrew Hallam, author of Millionaire Teacher, says that investors should rebalance their portfolios once a year, meaning that if you started 2015 with a portfolio equally spilt between a Canadian index, a U.S. index, an International index, and a bond index should have the same allocation now:

That means ignoring reports that a certain currency or market will keep falling through the floor. It means going against your gut. It means trading some of last year’s winners for the struggling Canadian index. This might sound like watering weeds and pulling flowers. But the strategy works – especially when markets are volatile and long-term returns are similar.

Investing is hard, and I’ve argued before that investors should consider a robo-advisor to manager their investments. These sophisticated online tools can make rational investment decisions for you based on your risk tolerance and target asset mix, rebalancing according to a pre-defined methodology rather than reacting to the news and succumbing to individual emotions.

Sure, many do-it-yourself investors will scoff at paying an extra fifty to one hundred basis points to have an algorithm manage their investment portfolio, but they often fail to consider the cost of letting their own behavioural biases and emotions dictate their investment strategy – straying from their original allocation, riding the temporary winners, abandoning yesterday’s losers, and often doing nothing at all, paralyzed by fear while waiting for “things to calm down”.

Final thoughts

It’s hard to stick to an investing strategy for the long term, through thick and thin, and not obsess over whether you’re doing the right thing. I know I couldn’t do it as a dividend investor. It killed me to see the likes of Canadian Oil Sands fall 50% or more, slashing the dividend along the way.

Indexing better suits my temperament. I don’t check my portfolio daily, or even care what happens in the markets from week-to-week. I’m confident that over the very long term, my all-equity portfolio gives me the best chance to amass a comfortable nest egg for retirement. But indexing isn’t without its own pitfalls.

As a DIY investor I still need to exercise my own judgement as to when to rebalance, what to do with new contributions, and how often to add to my portfolio. I have to ignore the temptation to “do something” when the Canadian dollar falls, or the economy slips into recession.

I’ve decided that I can do that competently at this point, but for anyone who stays awake at night asking themselves some of the questions above, I urge you to consider a robo-advisor to manage your investments while you focus your energy on the aspects of your financial plan that you can control.

RobbEngenIn addition to running the Boomer & Echo website, Robb Engen is a fee-only financial planner. This article originally ran on his site on January 24th and is republished here with his permission.

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