I’ve always liked investing rules, because they impose discipline. Here is one rule I find useful: boring investments are good investments. The more boring the investment, index, or asset class, the better it will probably be for your portfolio. This has been true throughout market history, and the rule manifests everywhere:
· Trading less often isn’t as fun, but it leads to lower costs (trading and taxes) and therefore higher long term returns.
· Index funds are plain and dull, but they outperform a significant majority of active managers over the long run.
· The best performing U.S. sector for the past 50 years is consumer staples, which includes companies that sell simple, boring products which rarely change.
No matter where you look, dull trumps exciting. Consider, for example, two very different industries at opposite ends of the dull/exciting spectrum: food, beverage & tobacco (Coca-Cola, Altria, Kraft Foods--BORING) and technology hardware & equipment (Apple, Qualcomm, Cisco—EXCITING).
The technology sector is almost always the most exciting part of the stock market, because technology companies offer new and exciting products and services. The market is rabidly speculating about every detail of the upcoming iPhone 6, but no one gives a crap about (or expects) some revolutionary new flavor of Coca-Cola.
So here is the remarkable fact: since 1963, the boring stocks (food, beverage & tobacco) have had a return of 13.6% per year (or 69,402% total), while the exciting stocks (technology hardware & equipment) have had a return of just 9.2% per year (or just 8,464% total).
You often hear that earning higher returns requires taking higher risk, but the opposite has been true for these two industries. Food, beverage & tobacco stocks have been HALF as volatile as technology hardware stocks (14.2% annual volatility versus 29.5%). You can see the difference, here is the rolling five-year return for each industry for the past 50 years.
Technology is an incredibly competitive industry with a very high rate of change. It is impossible to predict what technologies will emerge in the future, and equally impossible to predict what companies will profit from those new technologies. 3-D printing may be revolutionary, but we have no clue what company will emerge from what will be an extremely competitive playing field.
And yet, even with such an unpredictable future, investors have almost always paid a premium for technology stocks, because they excite and inspire. Here is the historical valuation percentile (higher = more expensive) for the two industries in question.
This means that, historically, investors have paid more for stocks in one of the most competitive industries, where it has been the hardest to succeed and stay on top.
Change generates excitement, but as Warren Buffett has said, “We see change as the enemy of investments...so we look for the absence of change. We don't like to lose money. Capitalism is pretty brutal. We look for mundane products that everybody needs.”
Your smartphone has more power than the first super computers; hardware has evolved at an unbelievable rate. Over that same time frame, here is what has happened at Coca-Cola.
Stick with boring, and you’ll win.
Calculation notes: The industry returns are based on an "equal weighted" custom index, which includes all stocks in the industry with a market cap > 200MM, inflation adjusted. The index is rebalanced/reconstituted annually in December