Bernstein: T-Bills Pack A Special Punch
July 24, 2012
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Bill Bernstein is a man who wears many hats, including author, money manager and former neurologist. His latest book takes up the entirety of a life of investing, including a focus on the final phase—what do investors do when they’ve won the game of investing and how exactly should they do it?
We’ve published an excerpt of the introduction to “The Ages of the Investor: A Critical Look at Life-cycle Investing” to give readers a taste of what Bernstein aims to tackle in his latest work and to take measure of his active, fun-loving mind.
When IndexUniverse.com Managing Editor Olly Ludwig visited with Bernstein recently, they talked about the new book, the hazards of predicting the future and the virtues of short-term Treasurys.
Ludwig: How did this particular project come into focus?
Bernstein: Well, I do think about finance occasionally; I do manage money. It was a labor of love. I’m getting older, our clients are getting older. And I wanted to think more seriously about that part of the process—the distribution part of the process. And there are a lot of interesting strands of thought that I wasn’t perfectly comfortable with.
For example, Zvi Bodie pushes the idea that everybody should be in a TIPS ladder. And I think he is basically right. But his rationale never made sense to me. And then, there is this very jarring book that was written by Barry Nalebuff and Ian Ayres that came to the opposite conclusion. As soon as you tell people what the premise of the book “Life-cycle Investing” is, they start to get really angry.
These are two very bright guys who were students of [Paul] Samuelson. Ayres is particularly interesting. Ayres is not only a Ph.D. economist but he also writes about a lot of different things. He writes about history and psychology and he also is a member of the Connecticut and New York bars and teaches the freshmen contracts course at Yale Law School. So he is no slouch.
The idea is that young people should leverage 2-to-1 in the stock market, not just invest 100 percent in stocks but leverage 2-to-1. As soon as you tell people that, they howl. The first time I heard about it I thought it was hilarious.
Ludwig: That leverage implies things like options strategies, etc. You talk about different vectors of achieving that outcome in your book.
Bernstein: Yes. Their way of doing it is LEAPs [long-term equity anticipation securities]—deep-in-the-money LEAPs. The trick is they are right. They’ve run the numbers six ways from Sunday. And they basically snuff out all the objections, all the theoretical objections to the technique. I’ve run the numbers my own way and have come to the same conclusion.
So what’s wrong with it? As I write in the book, “No sentient being in this quadrant of the galaxy can execute it.” It’s psychologically toxic for two reasons. No. 1 is that most people can’t tolerate a beta of 1.0 let alone one of 2.0. The second reason is, it is sitting inside of an options wrapper. And there are few investment environments that are more psychologically toxic than options.