Fees are more important than asset allocation, says Mebane Faber

Research from the money manager suggests even the world’s best-performing portfolios can be undone by inattention to fees

NYSE traders: stocks can underperform for long periods.. Photograph: Brendan McDermid/Reuters

How much money should you put in global equities? Are bonds looking risky right now? Is an old-fashioned portfolio made up of equities and bonds sufficient, or should you be seeking a more diversified portfolio with exposure to property, gold and various other asset classes?

It's customary for investors to fret over the make-up of their portfolio. However, new research from Cambria Asset Management's Mebane Faber suggests asset allocation may be less important than one might think, and that even the very best strategies can be undone by something that is all too often ignored – high fees.

Faber's new book, Global Asset Allocation: A Survey of the World's Top Asset Allocation Strategies, tracks 13 different assets and their returns since 1973, paying particular attention to model portfolios advocated by high-profile investors such as Warren Buffett, Marc Faber, Mohamed El-Erian, hedge fund giant Ray Dalio, and others. Remarkably, despite the different approaches, the end results do not vary nearly as wildly as one might think.


This doesn’t mean asset allocation is irrelevant. Investors, says Faber, “need a plan and process for investing in any environment, regardless of how improbable or unfathomable that may be”. That means creating a diversified portfolio, and being able to survive big declines in any one asset.


Although stocks do best in the long run, it’s not prudent for investors to opt for a portfolio consisting purely of equities. After all, says Faber, investors in some countries were wiped out in the 20th century, while stocks can also underperform for long periods – just ask investors in Japan, where the Nikkei remains at less than half its 1989 peak. In the US, too, there have been long droughts. Stocks underperformed bonds over a 68-year period in the 19th century, and again from 1929 to 1949. Between 1981 and 2011, US equities only barely beat bonds.

The volatility and emotionally challenging drawdowns associated with equities makes bonds an alternative, but there are risks here too. Bonds can fail to keep up with inflation for long periods. In real terms, the US and UK have seen real bond drawdowns of over 60 per cent, Faber notes, while even steeper declines have occurred in other developed markets.


Stocks and bonds tend to be non-correlated – as Faber puts it, “stocks often zig while bonds zag” – which is why many investors opt for an old-fashioned 60:40 portfolio (60 per cent equities, 40 per cent bonds). Since 1973, the 60:40 portfolio has produced real (inflation-adjusted) annual returns of 5.13 per cent in the US. That’s solid, although it would not have been a nerveless ride, at one stage suffering a decline of 39 per cent in real terms.

Asset management firms, such as Jeremy Grantham’s GMO, Ray Dalio’s Bridgewater, and Rob Arnott’s Research Affiliates, believe future returns will be poorer as US stocks and bonds look overpriced relative to historical norms. History suggests real annual returns will be closer to 1 per cent over the next decade, says Faber.

To reduce exposure to the US, he prefers a global 60:40 portfolio. Since 1973, it delivered slightly better real returns – 5.54 per cent annually – with slightly less volatility. A more diversified portfolio is easily achieved, and many money managers advocate different weightings of developed and emerging market equities, small-cap stocks, government bonds, corporate bonds, gold, property, and other asset classes. The best-performing strategy covered in Faber’s book comes from former Pimco chief Mohamed El-Erian. His allocation – 51 per cent in different classes of stocks, 23 per cent in US, international and inflation-linked bonds, 13 per cent in commodities, and 13 per cent in real estate investment trusts (Reits) – returned 5.96 per cent annually. There was a downside, however – a maximum drawdown of 46 per cent means this is not a portfolio for the faint-hearted.

Worst performer

More cautious souls would prefer the permanent portfolio suggested by author and former presidential candidate

Harry Browne


A conservative portfolio equally divided between large-cap stocks, bonds, gold and treasury bills, the portfolio never changes, as it is designed to withstand any environment. That it did, Faber noting it was “incredibly consistent across all market environments”.

Volatility was lower, with a maximum drawdown of 24 per cent. However, safety comes at a cost – the permanent portfolio’s annualised real returns, at just 4.12 per cent, were easily the lowest of the strategies surveyed by Faber.

The other portfolios come somewhere in the middle. Ray Dalio of Bridgewater, the world’s largest hedge fund firm, advocates an “all-weather” portfolio should prosper in different climates and be able to survive an event that might be “ruinous” for any one portfolio component.

His portfolio – 30 per cent stocks, 55 per cent in 10-and 30-year bonds, with the remainder divided between gold and commodities – has returned 5.04 per cent annually, with a maximum drawdown of 29 per cent.

This performance was almost identical to the portfolio suggested by Research Affiliates' Rob Arnott, which consisted of 20 per cent stocks, 30 per cent government bonds, 20 per cent corporate bonds, and 10 per cent each in inflation-linked bonds, commodities and Reits.

A global market portfolio, which simply invests along the lines of a global market-capitalisation weighted portfolio, has enjoyed real annual returns of 5.42 per cent, with a maximum peak-to-trough decline of 34 per cent. A portfolio consisting of 90 per cent US stocks and 10 per cent US bonds – Warren Buffett has left instructions in his will to follow this model – returned 5.35 per cent annually, although it did entail a hair-raising 50 per cent decline in real terms.

Marc Faber (no relation to Mebane) has suggested investors invest 25 per cent in gold, 25 per cent in stocks, 25 per cent in bonds and cash, and 25 per cent in property.

Since 1973, real returns averaged 5.26 per cent, with a maximum drawdown of 28 per cent. Faber’s “simple but very consistent” model is one of the few to have registered positive returns in each decade.

Little difference

Clearly, different investors opt for different allocations. Some, like Buffett, focus on equities; others, like Dalio, tilt towards bonds; some opt for no real assets, while Marc Faber suggests investors have as much as half of their portfolio in gold and property.

Nevertheless, “most of the allocations moved together in a similar fashion”, notes Mebane Faber. The difference between the best-performing portfolio (El-Erian’s) and the worst (the permanent portfolio) is just 1.84 per cent annually. If you exclude the permanent portfolio, all of the allocations are within one percentage point in performance terms.

Asset allocation, he suggests, is like baking. “As long as you have some of the main ingredients – stocks, bonds and real assets – the exact amount really doesn’t matter all that much”.

The real takeaway from the research is that fees are “far more important than your asset allocation decision”.

After all, even if you were told in 1973 what would be the best-performing asset allocation strategy over the next 41 years, you could underperform the worst strategy if you paid annual management fees of 2 per cent.

Unfortunately, investors spend much more time thinking about likely market moves and asset allocation than they do about fees. The irony is obvious, given investors can’t control the market but they can control the fees they pay.

Faber’s advice is simple: diversify across different assets; rebalance occasionally; keep costs low. Then “go live your life and don’t worry about your portfolio”.