Intellectual Ore

From “Rich Dad, Poor Dad”, to “Millionaire Next Door”, “Fooled By Randomness” to “Unconventional Success”, and even “The Little Book that Beat the Market” and Seth E. Klarman’s outstanding “Margin of Safety”, I’ve read way more than any sensible person should on personal finance. And here’s what I’ve concluded:

1. There is a massive oversupply of investment capital worldwide; Ben Bernanke calls this the “global savings glut” (speech). On balance, I believe the glut credibly explains everything from the year-2000 stockmarket crash to the subprime lending crisis. The basic problem: too many investors with significant investment capital (globally) chasing too few good investment opportunities.
2. Many writers recommend strong US equity orientation in personal investment portfolios. Unfortunately, I have yet to find even one author using reasons beyond “the past will repeat itself”, to justify their preference for US equity. There’s no doubt US equity has performed well in the past, but the argument begs the question: will US equity continue to perform well into the future, and if so, why?
3. Professional active management sucks. It’s definitely possible to generate excess returns via skilled portfolio management (does anyone really believe the strong EMH?), but I’m not convinced successful managers pass enough return to clients (versus themselves, as fees) to justify my patronage. (The Economist agrees with me). Which leads me to my fourth point:
4. The best strategy for most* personal portfolios is to think hard about asset allocation (asset class allocation, not security selection), and then execute the target allocation as inexpensively (brokerage fees, commissions, loads, taxes, 12b-1, etc.) as possible. (See caveat below.)

Here’s my retirement portfolio (adopted from Swensen):

• 25% US domestic equity
  • 15% small-cap
  • 10% large-cap
• 15% foreign developed equity (Japan, Western Europe, etc.)
• 10% developing equity
• 20% real estate
• 15% Treasury Bonds (long-term, non-callable obligations of the US government)
• 15% TIPS (Treasury Inflation-Protected Securities), to hedge against inflation

The strong equity orientation of this portfolio will drive returns and hedge against inflation, while the Treasury securities serve as a liquid hedge against major disruptions. This portfolio seems to have an “out” against almost all “what-if” scenarios I can imagine.

Investors should review their portfolio approximately once per quarter, and rebalance appropriately. Disciplined rebalancing ensures overweight asset classes will be sold after periods of good performance (selling high), and underweight classes will be purchased at a discount.

* The caveat: Transactional securities as a whole are a scam. Given the “global savings glut” discussed above, the returns to investment in oneself (getting a good education, starting a business, developing new skills, etc.) will outpace returns to transactional securities through the 21st century. I’m primarily interested in the allocation above as an inexpensive, hands-off way to invest for the long term, while spending only, say, 3-5 hours per month managing it. I have no doubt that you/your friend/your investment club can beat my portfolio, but doing so requires time: is that factored into the portfolio’s return? Bottom line: with the size of most personal investment portfolios, you’re better off spending enough time as necessary, but no more, investing, and the rest doing your own thing (working, starting a business, etc.). When you’re worth a few million, the rules change.

And on that note, I’m done with investing.

Mark is a writer, illustrator, ukulele obsessive and prolific blogger, who is also the Editor-in-chief of Make magazine. Make is the flagship of the new maker culture, where the art of making, hacking, customizing, blogging, etc., is celebrated. Make shows you how to hack into your houseplant’s DNA, build a rapid prototyping machine for $400, hack your Roomba robotic floor cleaner to do all sorts of things, build videocam rockets, and even make a cat feeder from an old VCR. It is geek, playful scientist, whole-earth, digger, merry prankster subculture rolled into one and is about active participation in invention and production. Serious science, serious message, serious fun. — Flyer for “A brief history of making”

For 60 minutes last Tuesday, I was lead down memory lane as Mark described his magazine. “MAKE: technology on your time”, as it’s called, aims to facilitate dialogue in and around the “maker” culture: those who aren’t afraid to do things themselves. From robotics to water rockets, Mark showed us that “making” went underground for a while, but the Internet is bringing it back.

The talk was pure bliss. For 60 minutes, I was reminded how much of my time before coming to college was spent engaging in creative construction. In retrospect, it’s hardly surprising that I’m a maker. Since I was born, my father maintained a fully-stocked workbench. I was also very involved in Scouting, which stresses practical outdoor knowledge like knot-tying, lashing, and first aid. Put those two together, and it’s not surprising that my brother and I racked up three pinewood derby trophies during our Cub Scout years.

As I grew, the projects kept coming: freshman year of high school, I made several potato launchers. At one point, I tried to set up an electrophoresis chamber to capture hydrogen. Later, I experimented with ferric chloride and printed circuit fabrication, which enabled all sorts of other pursuits: microcontroller programming, experiments with electromagnetism, and even car engine diagnostics. At one point, my friend John swapped the engine in his Z28 Camaro, and I researched how to re-work the car’s fuel injection system to accommodate the car’s new, much larger engine.

So, when Mark started talking about the “maker” culture, I knew exactly what he was talking about: even though it’s been a while since I’ve done any interesting projects, I still am a card-carrying maker, and that we now have our own magazine makes me happy as a clam.

More than any other project, however, “the speakers” stand out. I remember working on the first speaker I ever made in Dan’s basement; we built it out of unused shelving, and I mistakenly assumed that wood had no thickness when drawing up the cut diagrams. (Oops!) What started as a badly-planned attempt to save a few bucks morphed into a full-blown R&D effort in audio engineering. Over two years, we logged thousands of man-hours of work, and easily sunk $10,000+ into drivers, MDF, amplifiers, interconnect cables, crossovers, racks… but by any metric, our results were impressive. We did contract work for other students’ cars, and built the speakers that ran one of our high school dances. Five years later, I still remember “The 18″: an 18″ Audiobahn woofer mounted in a custom-built 140-liter cabinet (imagine a speaker as big as 40 one-gallon milk containers, and you’ll get the general idea). Meant as a truck subwoofer, it was larger than a mini-fridge and weighed at least 100 lbs. “The 18″ moved enough air to displace tiles in a 10-foot high ceiling when it was sitting on the floor.

Speaker-building was a constant team effort, because many steps require several people; feeding a 4′x8′ piece of MDF across a table saw is nearly impossible alone. Thus, our construction efforts became a socially creative endeavor, in which each person left his distinguishing mark on the final design: Dan was very good at applying carpeting and glue, and Kurt had a knack for setting screws straight without a level. (Kurt’s overall mechanical aptitude still amazes me.) Beyond the speakers, our many projects brought us together and allowed something constructive to come out of just “hanging out”.

At some point, however, the spirit of “making” left the group. After my sophomore year, I worked at Microsoft, and the Pacific Northwest. In and around Seattle, I spent countless hours biking, rafting, taking in live music, and enjoying some of the finest coffee and seafood available anywhere. I played poker with Microsoft folks, exercised at the Pro Club, and climbed Mt. Rainier. I saw airplanes under construction inside the world’s largest building, and visited Bill Gates’s house.

I spent one night that summer at a bar, and I was immediately reminded why I don’t like going to bars: they’re full of smoky, obnoxious drunks drinking overpriced drinks. There’s way too much pretense and way too little intelligence - just a bunch of cavemen looking for the plausible deniability (”I was sooooo drunk”) needed to attempt something involving members of their preferred sex, that they’re too scared to try otherwise.

Over the post-Microsoft years, I’ve begun to take stock of my ex-”maker” group (my high school friends), and I keep feeling like we have less and less in common. My friends have become, at best, my “drinking buddies who also occasionally make things”. One of them totaled a car by trying to put a boat into a lake while intoxicated. Another was arrested for trespassing on private property. Bar fights have become commonplace, with frequency vastly beyond what randomness can explain away.

I’ve done a few stupid things in my life (the gas can incident comes to mind), but I’ve learned from my mistakes and moved on. Unfortunately, many people who remain important to me seem to consider drinking a prerequisite to a good time. As my spectacular, almost-alcohol-free summer in Seattle demonstrates, I don’t. So, when I choose not to engage in the public glorification of binge drinking known as “Unofficial”, please don’t be offended - just don’t question my decision. Maybe you can help me build this instead.