Although he did not discourage readers from investing in index funds, his concerns seem valid. I would like to know your opinion on the concerns raised in the article. I would also like to know whether it is the right time to jump into index funds at the peak of the market when most index funds are loaded with overvalued stocks. ---J.L., by e-mail
A: Winston Churchill once said: "No one pretends that democracy is perfect or all-wise. Indeed, it has been said that democracy is the worst form of government except all those other forms that have been tried from time to time." The same statement could be made of index funds as a form of money management. They aren't perfect, but they are better than all the other forms that have been tried.
While Gregg Wolper is correct -- there is a built-in momentum element in market capitalization-based index funds -- it has never been so great a problem that broad index funds haven't outperformed the majority of their managed competitors.
We live in an imperfect world. What we try to do as investors is work with the tools that give us the best results at the greatest efficiency. To me what is truly amazing about index funds is that a tool with such visible limitations has so easily and consistently beaten the majority of managed funds over not years but decades.
You buy an index fund to avoid stock selection risk.
You also buy an index fund to avoid market timing risk. You buy the asset class as a whole and use the best tool yet created to capture its returns -- and its risks. When you ask whether it is "the right time to jump into index funds at the peak of the market when most index funds are loaded with overvalued stocks," you are expressing an opinion about stocks, the market and the future. Opinions are something index investors try not to have -- because they are usually wrong. Overvalued stocks and overpriced markets often continue to rise. Undervalued stocks and underpriced markets often continue to sink.
We can be entertained by all those who have opinions about the value of stocks and the level of the market. But we should never forget that it is entertainment, not a visit to the Oracle of Delphi. Skeptics need only endure a few minutes of James Cramer's "Mad Money" to get a visceral understanding of opinions as entertainment.
When you become an index investor, you rest in the benign assurance that you will capture the market return of many asset classes. You also accept a historically verifiable idea: Flawed, vain, violent and covetous human beings, on balance, collectively manage to create more value than they destroy. Q: I am 60 years old and retired, with 80 percent of my savings in the stock market. Of that amount, about 40 percent is in alternative investments sanctioned by one of the largest financial firms in the world.
Should I be looking to move that money into safe investments such as CDs? If so, how does one do that when the FDIC insures only $100,000 per bank per customer? With my net worth, I'd be running all over town looking for banks. Yes, I know that's a good problem have! -- E.K., by e-mail
A: Unless you do a great deal of hunting, you will find that U.S. Treasury obligations generally yield more than bank CDs of the same maturity. If you visit http://www.banxquote.com/, for instance, you will find that the national average yield on a five-year CD is currently 3.91 percent. Visit http://www.bloomberg.com/ and you'll find that a five-year Treasury obligation yields 4.70 percent.
People with large portfolios -- those who have to worry about the limits of FDIC insurance -- get the best credit quality in the world with U.S. Treasury obligations. You can buy them through investment firms like Fidelity or Vanguard. You can also buy Treasury obligations directly at http://www.easysaver.gov/.
This article contains the opinions of the author but not necessarily the opinions of AssetBuilder Inc. The opinion of the author is subject to change without notice. All materials presented are compiled from sources believed to be reliable and current, but accuracy cannot be guaranteed. This article is distributed for educational puposes, and it is not to be construed as an offer, solicitation, recommendation, or endorsement of any particular security, product, or service.
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