Über die Autorinnen und Autoren

William J. Bernstein, Ph.D., M.D., is a neurologistand the cofounder of the investment managementfirm Efficient Frontier Advisors. He is theauthor of three finance books—The IntelligentAsset Allocator, The Four Pillars of Investing, andThe Investor’s Manifesto—and two volumes ofeconomic history, The Birth of Plenty and A SplendidExchange. Bernstein is currently working ona history book exploring the effects of access totechnology on human relations and politics.

William J. Bernstein, Ph.D., M.D., is a neurologistand the cofounder of the investment managementfirm Efficient Frontier Advisors. He is theauthor of three finance books—The IntelligentAsset Allocator, The Four Pillars of Investing, andThe Investor’s Manifesto—and two volumes ofeconomic history, The Birth of Plenty and A SplendidExchange. Bernstein is currently working ona history book exploring the effects of access totechnology on human relations and politics.

Von der hinteren Coverseite

Since its initial publication, The Four Pillars of Investing has become a staplefor the independent-minded investor looking to make better-informedinvestment decisions. Written by noted financial expert and neurologistWilliam Bernstein, this time-honored investing guide provides the knowledgeand tools for achieving long-term profitability.

Bernstein bridges the four fundamental topics successful investors use to generateexceptional profits on a consistent basis:

• The Theory of Investing: “Do not expect high returnswithout risks.”
• The History of Investing: “About once every generation,the markets go barking mad. If you are unprepared,you are sure to fail.”
• The Psychology of Investing: “Identify the era’sconventional wisdom and assume that it is wrong.More often than not, it is.”
• The Business of Investing: “The stockbroker serviceshis clients in the same way that Bonnie and Clydeserviced banks.”

From the essential soundness of classic portfolio theory through the inherent wisdomof investing in multiple asset classes, The Four Pillars of Investing providesa distinctive blend of market history, investing theory, and behavioral finance tohelp you become a successful, self-sufficient investor.

Auszug. © Genehmigter Nachdruck. Alle Rechte vorbehalten.

The Four Pillars of Investing

McGraw-Hill

Contents

Chapter One

There are certain things that cannot be adequately explained to a virgin either by words or pictures. Nor can any description that I might offer here even approximate what it feels like to lose a real chunk of money that you used to own. Fred Schwed, from Where Are the Customers' Yachts?

I'm often asked whether the markets behave rationally. My answer is that it all depends on your time horizon. Turn on CNBC at 9:31 A.M. any weekday morning and you're faced with a lunatic asylum described by the Three Stooges. But stand back a bit and you'll start to see trends and regular occurrences. When the market is viewed over decades, its behavior is as predictable as a Lakers- Clippers basketball game. The one thing that stands out above all else is the relationship between return and risk. Assets with higher returns invariably carry with them stomach-churning risk, while safe assets almost always have lower returns. The best way to illustrate the critical relationship between risk and return is by surveying stock and bond markets through the centuries.

The Fairy Tale

When I was a child back in the fifties, I treasured my monthly trips to the barbershop. I'd pay my quarter, jump into the huge chair, and for 15 minutes become an honorary member of adult male society. Conversation generally revolved around the emanations from the television set: a small household god dwarfed by its oversized mahogany frame. The fare reflected the innocence of the era: I Love Lucy, game shows, and, if we were especially lucky, afternoon baseball. But I do not ever recall hearing one conversation or program that included finance. The stock market, economy, machinations of the Fed, or even government expenditures did not infiltrate our barbershop world.

Today we live in a sea of financial information, with waves of stock information constantly bombarding us. On days when the markets are particularly active, our day-to-day routines are saturated with news stories and personal conversations concerning the whys and wherefores of security prices. Even on quiet days, it is impossible to escape the ubiquitous stock ticker scrolling across the bottom of the television screen or commercials featuring British royalty discoursing knowledgeably about equity ratios.

It has become a commonplace that stocks are the best long-term investment for the average citizen. At one time or another, most of us have seen a plot of capital wealth looking something like Figure 1-1, demonstrating that $1 invested in the U.S. stock market in 1790 would have grown to more than $23 million by the year 2000.

Unfortunately, for a number of reasons, no person, family, or organization ever obtained these returns. First, we invest now so that we may spend later. In fact, this is the essence of investing: the forbearance of immediate spending in exchange for future income. Because of the mathematics of compound interest, spending even a tiny fraction on a regular basis devastates final wealth over the long haul. During the last two hundred years, each 1% spent each year reduces the final amount by a factor of eight. For example, a 1% reduction in return would have reduced the final amount from $23 million to about $3 million and a 2% reduction to about $400,000. Few investors have the patience to leave the fruits of their labor untouched. And even if they did, their spendthrift heirs would likely make fast work of their fortune.

But even allowing for this, Figure 1-1 is still highly deceptive. For starters, it ignores commissions and taxes, which would have shrunk returns by another percent or two, reducing a potential $23 million fortune to the above $3 million or $400,000. Even more importantly, it ignores "survivorship bias." This term refers to the fact that only the best outcomes make it into the history books; those financial markets that failed do not. It is no accident that investors focus on the immense wealth generated by the economy and markets of the United States these past two centuries; the champion—our stock market—is the most easily visible, while less successful assets fade quickly from view.

And yet the global investor in 1790 would have been hard pressed to pick out the United States as a success story. At its birth, our nation was a financial basket case. And its history over the next century hardly inspired confidence, with an unstable banking structure, rampant speculation, and the Civil War. The nineteenth century culminated in the near bankruptcy of the U.S. Treasury, which was narrowly averted only through the organizational talents of J.P. Morgan. Worse still, for most of the past 200 years, stocks were inaccessible to the average person. Before about 1925, it was virtually impossible for even the wealthiest Americans to purchase shares in an honest and efficient manner.

Worst of all, in the year 2002, the good news about historically high stock returns is out of the bag. For historical reasons, many financial scholars undertake the serious study of U.S. stock returns with data beginning in 1871. But it's worth remembering that 1871 was only six years after the end of the Civil War, with industrial stocks selling at ridiculously low prices—just three to four times their annual earnings. Stocks today are selling at nearly ten times that valuation, making it unlikely that we will witness a repeat of the returns seen in the past 130 years.

Finally, there is the small matter of risk. Figure 1-1 is also deceptive because of the manner in which the data are displayed, with an enormous range of dollar values compressed into its vertical scale. The Great Depression, during which stocks lost more than 80% of their value, is just barely visible. Likewise, the 1973—1974 bear market, during which stocks lost more than one-half of their after-inflation value, is seen only as a slight flattening of the plot. And the October 1987 market crash is not visible at all. All three of these events drove millions of investors permanently out of the stock market. For a generation after the 1929 crash, the overwhelming majority of the investing public shunned stocks altogether.

The popular conceit of every bull market is that the public has bought into the value of long-term investing and will never sell their stocks simply because of market fluctuation. And time after time, the investing public loses heart after the inevitable punishing declines that stock markets periodically dish out, and the cycle begins anew.

With that in mind, we'll plumb the history of stock and bond returns around the globe for clues regarding how to capture some of their rewards.

Ultimately, this book is about the building of investment portfolios that are both prudent and efficient. The construction of a house is a valuable metaphor for this process. The very first thing the wise homebuilder does, before drawing up blueprints, digging a foundation, or ordering appliances, is learn about the construction materials available.

In the case of investing, these materials are stocks and bonds, and it is impossible to spend too much time studying them. We will expend a lot of energy on the several-hundred-year sweep of human investing—a topic that some may initially find tangential to our ultimate goal. Rest assured that our efforts in...