If you read the headline of this article, you probably have the same thought as everyone else:

“No CHANCE”

Meaning, there is no way this headline is true. I mean, how many investors do you know with a portfolio that is 60% stocks and 40% gold? (Ok maybe a few crazy Canadians or Australians?)

The most iconic institutional benchmark is the 60/40 portfolio of US stocks and bonds. It seems crazy to think that there is nothing special about this allocation.  So let’s run a crazy thought experiment and swap out one of the assets, bonds, with another totally unrelated asset, gold, and see what happens. Surely it will crush returns…..right?

All of the risk and return statistics are just about the same. Some readers will of course respond that the time period is cherry picked, but it holds for the last 100 years too. 

Investors love to think it binary terms “Should I own bonds OR gold?!” However, historically the more uncorrelated assets included in the portfolio, the better. So instead of asking “Should I own bonds OR gold?!”, perhaps the question should be “Should I own bonds AND gold?!”

Historically, the answer has been…”BOTH”.

Are gold and bonds just interchangeable?

Not a gold bug but I lived with a Canadian once.

Pension funds’ annualized aggregate returns since 2000 have been virtually identical to a simple 60-40 index portfolio. 

That feels somewhat expected it seems, but what about the true crème de la crème, the top institutions. Surely they could beat a simple buy and hold allocation?

Turns out, they really can’t. Below we recall an article we penned a few years ago, “Should CalPERS Fire Everyone and Buy Some ETFs?”

“He was a U.S.-class smooth politician, which is the only way you’re going to survive in that job. It has nothing to do with investing.”

That’s how Institutional Investor recently described a former CIO of the California Public Employees’ Retirement System, also known as CalPERS. 

The description is especially interesting when considering that the “I” in “CIO” stands for “investment,” which raises an eyebrow at how the role could have “nothing to do with investing”.

For readers less familiar with CalPERS, it manages pension and health benefits for over one million public employees, retirees, and their families. They oversee the largest pension fund in the country, valued at over $450 billion.

With that massive amount of assets comes a great deal of scrutiny over how those assets are deployed. The CIO role managing this pension is one of the most prestigious and powerful in the country, hence Institutional Investor’s interest. Apparently, it’s also one of the hardest roles to hold down. The position has averaged a new CIO roughly every other year for the past decade.

Now, this article isn’t going to spend a great deal of time on CalPERS governance, as many others have spilled a great deal of ink there. Plus, the drama surrounding the pension is never-ending and will likely feature a new twist by the time we publish our article. (To be fair, Harvard’s endowment issues are nearly equally as dramatic…)

Instead, we’re going to use CalPERS’ investment approach as a jumping-off point for a broader discussion about portfolio allocation, returns, fees, and wasted effort. And if we do our job correctly, we hope you’ll feel just a bit less stress about your own portfolio positioning by the time we’re done.

The staggering waste of CalPERS market approach

CalPERS’ stated mission is to “Deliver retirement and health care benefits to members and their beneficiaries.”

Nowhere in this mission does it state the goal is to invest in loads of private funds and pay the inflated salaries of countless private equity and hedge fund managers. But that is exactly what CalPERS’ does.

The pension’s Investment Policy document – and we’re not making this up – is 118 pages long.

Their list of investments and funds runs 286 pages long. (Maybe they need to read the book “The Index Card”.)

Their structure is so complicated that for a long time, CalPERS couldn’t even calculate the fees it pays on its private investments. On that note, by far the biggest contributor to high fees is CalPERS’ private equity allocation, which they plan on increasing the allocation to. Is that a well thought out idea or is it a Hail Mary pass after years of underperformance? According to a recent CalPERs venture capital portfolio returned 0.49% from 2000 to 2020.

Now, it’s easy to criticize. But is there a better way?

Let’s examine CalPERS’ historical returns against some basic asset allocation strategies.

We’ll begin with CalPERS’ current portfolio allocation:

Source: CalPERS

Now, that we know what CalPERS is working with, let’s compare its returns against three basic portfolios beginning in 1985.

• The classic 60/40 US stocks and bonds benchmark.
• A global asset allocation (GAA) portfolio from our book Global Asset Allocation (available as a free eBook here). The allocation approximates the allocation of the global market portfolio of all the public assets in the world.
• A GAA portfolio with slight leverage, since many of the funds and strategies that CalPERS utilizes have embedded leverage.

Source: CalPERS, Global Financial Data, Cambria

As you can see from the table, from 1985-2022 CalPERS fails to differentiate itself from our simple “do nothing” benchmarks.

To be clearer the returns are not bad. They’re just not good.

Consider the implications:

All the time and money spent by investment committees debating the allocation…

All the time and money spent on sourcing and allocating to private funds…

All the time and money spent on consultants…

All the time and money spent on hiring new employees and CIOs…

All the time and money spent on putting together endless reports to track the thousands of investments…

All of it – absolutely wasted.

CalPERS would have been better off just firing their whole staff and buying some ETFs. Should they call Steve Edmundson? It would certainly make the record keeping a lot easier!

Plus, they would save hundreds of millions a year on operating costs and external fund fees. Cumulatively over the years, the costs run well into the billions.

Personally, I take the “I” part of the acronym very seriously and have offered to manage the CalPERS pension for free.

“Hey pension funds struggling with underperformance and major costs and headcount. I’ll manage your portfolio for free. Buy some ETFs. Rebal every year or so. Have an annual shareholder meeting over some pale ales. Maybe write a year in review.”

I’ve applied for the CIO role three times, but each time CalPERS has declined an interview.

Maybe CalPERS should update its mission statement to “Deliver retirement and health care benefits to members CalPERS employees, private fund managers and their beneficiaries.”

In this instance, they would be succeeding mightily.

Is it just CalPERS, or is it the industry?

One could look at the results above and conclude CalPERS is an outlier.

Critics might push back, saying, “OK Meb, we get that CalPERS can’t beat a basic buy and hold, but let’s be honest – it’s the GOVERNMENT! We define our government by mediocrity. Any serious private pension or institution should be using the smart money, the big hedge fund managers.”

Fair point. So, let’s broaden our analysis.

We’ll do so by examining the largest and most famous hedge fund manager, Bridgewater. This $100 billion+ money manager offers two main portfolios, a buy and hold “All Weather” strategy and a “Pure Alpha” strategy.

In 2014, we set out to clone Bridgewater’s All Weather” portfolio – an allocation that Bridgewater says has been stress-tested through two recessions, a real estate bubble, and a global financial crisis.

The clone, based on a simple global market portfolio comprised of indexes, did a good job of replicating Bridgewater’s offering when back tested. More importantly, running the clone would have required zero hedge fund management costs and lockups, and wouldn’t have been weighed down by any tax inefficiency. To be fair, this backrest has the benefit of hindsight and pays no fees or transaction costs.

The All Weather portfolio, with its focus on risk parity, shows that if you’re building a portfolio you don’t necessarily have to accept pre-packaged asset classes.

For example, when it comes to equities, they are inherently leveraged, and most companies have debt on their balance sheet. So, there’s no reason nor obligation to take stocks at their notional value. One choice to “deleverage stocks” would be to invest half in equities and half in cash. And the same goes for bonds, you can leverage them up or down to make them more or less volatile.

This approach has been around for a long time, well over sixty years. Dating back to the days of Markowitz, Tobin, and Sharpe, the concept is essentially a super diversified buy-and-hold and rebalanced portfolio – one that Bridgewater’s founder Ray Dalio says he would invest in if he passed away and needed a simple allocation for his children.

So clearly the world’s largest hedge fund should be able to stomp an allocation one could write on an index card?

Once again, from 1998-2022 we find that a basic 60/40 or global market portfolio does a better job than the largest hedge fund complex in the world.

Source: Morningstar, Global Financial Data, Cambria

One may respond, “OK Meb, All Weather is supposed to be a buy and hold portfolio. They charge low fees. You want the good stuff, the actively managed Pure Alpha!”

What about Bridgewater’s actively managed portfolio?

Dalio separated the All Weather portfolio from Bridgewater’s Pure Alpha strategy, which is meant to be its multi-strategy, go anywhere portfolio.

His idea was to separate “beta,” or market performance from “alpha,” or added performance on top of average market returns. He believes beta is something that you should pay very little for (we’ve gone on the record in saying you should pay nothing for it).

Let’s now bring the Pure Alpha strategy into the mix. Below, we’ll compare it with All Weather, the traditional 60/40 portfolio, and the Global Asset Allocation (GAA) portfolio from our book and above. Finally, the risk parity strategy uses some leverage, so we also did a test with GAA and leverage of 20%.

The replication strategy back tested the portfolios’ respective performances between 1998 and 2022.

Source: Morningstar, Global Financial Data, Cambria

Once again the returns of Pure Alpha were nearly identical to the GAA and 60/40 portfolios, with performance differing by less than 0.5%. And don’t miss that Pure Alpha actually trailed the leveraged version of the GAA portfolio.

Again, this isn’t bad, it’s just not good.

Some may say, “but Dalio and the company did this in the 1990s in real time with real money.”

We absolutely tip our hat to that argument, and additionally, the Pure Alpha looks like it takes a different return path than the other allocations, likely offering some diversification benefit from the non-correlation to traditional assets. We also acknowledge that the benchmarks include a particularly strong trailing run for US stocks.

Here’s the problem. Many of these hedge fund and private equity strategies cost the end investor 2 and 20, or 2% management fees and 20% of performance. So that 10% annual gross performance gets knocked down to 6% after all of those fees.

So yes, perhaps Bridgewater and other funds do generate some alpha, the problem is that they keep it all for themselves.

Regardless, it’s good to see that you can replicate a tremendous amount of their strategy just by buying the global market portfolio with ETFs and rebalancing it once a year while avoiding huge management fees, paying extra taxes, or requiring massive minimum buy-ins.

The relevance to your portfolio

Let’s take this away from the academic and make it relevant to your money and portfolio.

As you sift through year-end articles proclaiming how to position your portfolio for a monster 2024, or more likely given a pundit’s preference for gloom and doom, news an impending big recession and crash coming… as you stress about how much money to put into gold, or oil, or emerging markets… as you lose sleep wrestling with whether U.S .stocks are too expensive… consider a more important question…

“Does it even matter?”

If the biggest pension fund and the biggest hedge fund cannot outperform basic buy and hold asset allocations, what chance do you have?

To all the pension funds and endowments out there, the offer stands – we’re happy to design a strategic asset allocation for free. We’ll save you the $1 million in base and bonus for the CalPERS CIO role. All that we ask is that just maybe, we meet once a year, rebalance, and share some beverages.

If you’re like most investors, you’re asking the wrong questions.

I was chatting with a group of advisors about a decade ago in La Jolla and a question arose. I’ll paraphrase:

“Meb, thanks for the talk. We get a steady stream of salespeople and consultants in here hawking their various asset allocation models. Frankly, it can be overwhelming. Some will send us a 50-page report, all to explain a strategic shift from 50% equities to 40%. I want to do right by my clients, but I have a hard time reading all the various research pieces and models, let alone reconciling their differences. Any thoughts?”

The advisor followed up by emailing me this summary of all of the institutional asset allocation models by the Goldmans, Morgan Stanleys, and Deutsche Banks of the world. And as you’ll see, they are HIGHLY different. Morgan Stanley said only 25% in US stocks, while Silvercrest said 54%! Brown Advisory said 10% in emerging markets and JPMorgan 0%.

So what is an advisor to do? What’s the most effective asset allocation model?

Turns out, that’s actually, that’s the wrong question.

The correct starting question is, “Do asset allocation differences even matter?”

In the summary article that the advisor sent me, there’s a link to a data table showing the asset allocations of 40 of the nation’s leading wealth management groups. I teased out all the data from the table to examine three allocations:

The allocation with the most amount in stocks (Deutsche Bank at 74%).

The average of all 40.

The allocation with the least amount in stocks (Northern Trust at 35%).

We used public market equivilants for the private strategies. Below is the equity curve for each. Unless you have hawk-like vision, you’ll likely have a hard time distinguishing between the curves, and this is for the most different. The other 40+ firms live somewhere in the middle!!

Below are the returns for each allocation over the entire 1973-2024 period.

Most aggressive (DB): 9.48% update

Average: 9.32%

Least aggressive (AT): 8.98%

There you have it – the difference between the most and least aggressive portfolios is a whopping 0.50% a year. Now, how much do you think all of these institutions charge for their services? How many millions and billions in consulting fees are wasted fretting over asset allocation models?

Let’s try one more experiment…

Overlay a simple 1% management fee on the most aggressive portfolio and look again at the returns. Simply by paying this mild fee (that is lower than the average mutual fund, by the way) you have turned the highest returning allocation into the lowest returning allocation – rendering the entire asset allocation decision totally irrelevant.

And if you allocate to the average advisor with an average fee (1%) that invests in the average mutual fund, well, you know the conclusion.

So all those questions that stress you out…

“Is it a good time for gold?”

“What about the next Fed move – should I lighten my equity positions beforehand?”

“Is the UK going to leave the EU, and what should that mean for my allocation to foreign investments?”

Let them go.

If you had billions of dollars under management and access to the best investors in the world, you’d think you’d be able to beat a basic 60/40 index. Turns out most institutions can’t.

If you’re a professional money manager, go spend your time on value added activities like estate planning, insurance, tax harvesting, prospecting, general time with your clients or family, or even golf.