Letter on investing - Luca Bolognese

Letter on investing

Luca -

☕ 3 min. read

In 2007 I wrote a blog post on in­vest­ing. During the last five years, my view evolved a bit. People of­ten ask me how to get a fi­nan­cial ed­u­ca­tion. This is the lat­est email I sent on the topic.

From: Bolognese, Luca

Sent: 04 April 2012 16:52


Subject: RE: A fi­nan­cial ed­u­ca­tion

Disclaimer: this are just my per­sonal opin­ions drawn from my 10+ years of in­vest­ing, read­ing books and aca­d­e­mic pa­pers about it. I can jus­tify most state­ments be­low with some aca­d­e­mic ref­er­ence, but that would make this email too long.

Also some­one else might read the same ma­te­r­ial and come up with a dif­fer­ent opin­ion. It is a field that is prob­a­bilis­tic in na­ture and does­n’t lend it­self to cer­tain­ties. For ex­am­ple, you can make a lot of money out of an in­vest­ment and still be wrong to have made it. And con­versely.

Our brains don’t work well in such fields.

  • The most im­por­tant thing in in­vest­ing is not in­vest­ing, it is sav­ing the money to in­vest. If you save enough and are mildly rea­son­able in your in­vest­ments (aka you di­ver­sify), you are go­ing to be ok. Saving is not me­chan­i­cally dif­fi­cult, it is mo­ti­va­tion­ally dif­fi­cult. The best book I found on the topic is this one. I read ear­lier edi­tions, this is a new one. I don’t like the in­vest­ment chap­ters.
  • After that, you need to make sure that your fi­nan­cial mat­ters are in or­der (i.e. you are en­sured against cat­a­stro­phes, you max­i­mize your tax de­duc­tions, etc…). This is the field of per­sonal fi­nance. I’ve been sug­gest­ing this book to American au­di­ences. It is on Amazon.co.uk, so it might be the UK ver­sion.
  • Now that you have saved money and your fi­nances are in or­der, you can start think­ing about in­vest­ing. The most im­por­tant things in in­vest­ing are: de­cid­ing what you be­lieve in, what your risk tol­er­ance is, how im­por­tant is for your per­for­mance to track the mar­ket, what your time hori­zon is and how much time you want to ded­i­cate to in­vest­ing.
    • My risk tol­er­ance is high. I’ve spent a lot of time learn­ing about in­vest­ing. I’m will­ing to see the value of my port­fo­lio go down with­out ex­pe­ri­enc­ing emo­tional dis­tress (I’ve tried it)
    • I don’t care about my in­vest­ment per­for­mance track­ing the mar­ket. I don’t watch fi­nan­cial pro­grams.
    • My time hori­zon is long. These are money I in­vest for my re­tire­ment.
    • I’m will­ing to in­vest time to keep my­self up to date on in­vest­ment top­ics and man­age my port­fo­lio
    • I be­lieve the fol­low­ing (these are the bi­ases that colour my view):
    • Diversification among dif­fer­ent sources of re­turns is to be sought ag­gres­sively
    • Most as­set classes are not ef­fi­cient be­cause of:
      • Predictable flaws in hu­man brain’s pro­cess­ing ma­chin­ery
      • Institutional con­straints on most pro­fes­sional in­vestor (aka they have to track the mar­ket they in­vest in closely)
      • Short term per­for­mance in­cen­tive for pro­fes­sional in­vestors
    • Some as­set classes are in­trin­si­cally more in­ef­fi­cient than oth­ers (i.e. emerg­ing mar­kets mi­cro stocks com­pared to US large stock) be­cause that’s where the causes of in­ef­fi­cien­cies are strongest
    • The biggest in­ef­fi­cien­cies are among as­set classes (i.e. stocks vs bonds vs com­modi­ties)
    • Most peo­ple (myself in­cluded) don’t have the time to do the re­search nec­es­sary to in­vest in in­di­vid­ual stocks us­ing the two ways that I be­lieve are right’: quant mod­els or/​and fun­da­men­tal value analy­sis.
  • Some books to get you started:
    • A good per­spec­tive on how to think about the mar­ket and the work you need to do if you want to in­vest in stocks. The in­tel­li­gent in­vestor.
    • Why di­ver­si­fi­ca­tion is im­por­tant. The in­tel­li­gent as­set al­lo­ca­tor. I don’t be­lieve in sta­tic as­set al­lo­ca­tion, but you need to know what it is to be­lieve (or not) in it.
    • Moving be­yond a sta­tic as­set al­lo­ca­tion with a quant based highly di­ver­si­fied, but sim­ple to im­ple­ment sys­tem. The Ivy Portfolio. I am very tempted to use this one my­self
    • Why as­set classes are of­ten mis­priced. Probably the pre­mier quant shop around. Read most quar­terly let­ters.
    • Systems to take ad­van­tage of such mis­pric­ing are de­scribed here. I have ob­tained copies of all the newslet­ters sent by the au­thor go­ing back to 1991 and back­tested some of the sys­tems. These are the sys­tem I use. But the newslet­ter is rel­a­tively ex­pen­sive and com­plex to fol­low.
    • If you de­cide to branch out into value analy­sis of com­pa­nies. Essays of war­ren buf­fett. You would also need to read an in­tro­duc­tory and an ad­vanced ac­count­ing text. I don’t know UK ac­count­ing, so can­not sug­gest good can­di­dates.
    • If you are very con­ser­v­a­tive and want to just in­vest in Inflation Linked Bonds (or fear­ful of mar­kets in gen­eral), there is a book for that: here.
  • With all of that out of the way, here is some prac­ti­cal coun­sel
    • if you have less than 20,000 pounds to in­vest try to find a fund or etf that in­vest in a di­ver­si­fied ar­ray of as­set classes for a small price. I don’t know the UK mar­ket, so can­not sug­gest one.
    • If you have more than that and are will­ing to ded­i­cate a few hours a month, you can start im­ple­ment­ing some of the sys­tems in the Ivy Portfolio book. Maybe you in­te­grate it with the GMO 7 years as­set class fore­casts to push a bit of value bias in your sys­tem.
    • For most peo­ple that’s it. If it be­comes a life­long in­ter­est / ma­nia as it is for me, there is a bit more that can be done, but it is un­clear to me that the re­sults are nec­es­sar­ily bet­ter than the sim­ple sys­tems de­scribed above.



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