MY GRANDFATHER was from Queens in New York City. He was a great guy and taught me a lot. He was also a native New Yorker, so he was street smart and tough.
One day, while we were walking together down 47th Street, near Times Square, I stopped to look at the jam-packed window of an electronics store. My grandfather waited patiently, but cautioned me, “Careful, they’ll take the eyes out of your head.”
It was a funny expression, but I understood: Be careful of shiny objects, he was saying, and be even more careful of the salesmen peddling them.
That was more than 30 years ago, but I was reminded of it when I heard a financial industry insider offer similar words to the wise. In this case, the shiny objects in question were private investment funds, like venture capital funds and hedge funds.
Andy Rachleff is one of Silicon Valley’s most successful venture capitalists. In 1995, he founded the firm Benchmark Capital. Over the course of his career, Rachleff achieved an enviable record, including making a fortune as an early investor in eBay.
Needless to say, if you had been an investor in Benchmark’s funds, you would be very happy today. Indeed, it might seem logical to try to find the next Andy Rachleff. After all, who wouldn’t want to get in on the ground floor of the next generation of successful startups?
This is where Rachleff’s warning comes in. In an interview, he explained why, as an individual investor, you shouldn’t try to find the next Benchmark. “The only venture capital funds that will let [the big wealth management firms catering to individual investors] invest in their funds are the ones that are desperate for capital. They suck…. So by definition, if [a wealth management firm offers to] give you access, run away.”
Strong words, but an important message: The problem isn’t that you can’t find great investment funds. The problem, in Rachleff’s view, is that—as an individual—you simply can’t get in. Instead of settling for second-best, it’s better to take a different approach entirely. Here are two recommendations:
First, remember that asset allocation is what matters most. What we’re talking about here is your basic mix of the four major asset classes: stocks, bonds, cash investments and alternative investments. Research has shown that it’s much more valuable to spend time thinking through the types of investments you own, rather than endlessly deliberating over the choice of specific investments.
Second, recognize that the most powerful—and easiest—way to diversify is with stocks and bonds. Historically, stocks and bonds have exhibited a negative correlation with each other. In other words, when one goes up, the other goes down, and vice versa. That’s why I don’t think you need to get too clever and choose other investments. You might see advertisements for gold funds, currencies, commodities and the like. But the data indicate that these don’t provide the same diversification benefit as a simple stock-bond mix. Yes, they sound sophisticated, but they aren’t much help.
Culturally, 47th Street seems a long way from Wall Street. Scratch the surface, though, and I don’t think they’re that different at all. Wall Street’s salespeople look professional, with their pinstriped suits and fancy offices. But don’t let that fool you. Regardless of the venue, always be wary of shiny objects.
Adam M. Grossman’s previous blogs include Off Target, Just Like Warren and Any Alternative. Adam is the founder of Mayport Wealth Management, a fixed-fee financial planning firm in Boston. He’s an advocate of evidence-based investing and is on a mission to lower the cost of investment advice for consumers. Follow Adam on Twitter @AdamMGrossman.