Q. I am getting ready for a big long discussion with my stock broker. He wants to change some mutual funds. As part of my ‘homework,’ I came across an old book — The Lazy Person’s Guide to Investing. It recommends a 50-50 split between a bond index fund and a stock index fund. I had been estimating future returns using one-, five- and 10-year historical records yearly compounding. I was astounded to find that the 50-50 is still producing as well as in 2004, is matching my IRA funds and outperforming my stock broker-big time! Is there a fatal flaw in my logic or my calculations?
— Considering

A. Ah, if only we had a crystal ball!

We took your question to Jerry Lynch, a certified financial planner with JFL Total Wealth Management in Boonton.

He said you sound like an engineer.

“The first your fatal flaw is you need to remember is that money and math are unrelated,” Lynch said. “Just because you can compound numbers with a calculator does not mean that you will actually have that number at the end of the day.”

He said it doesn’t work like that, and of course, past performance has nothing to do with future performance.

Lynch said he has no problem with indexing and he does use it for parts of his portfolios. But he also believes there is a benefit of active management in certain areas.

“For example, right now on bonds, we are shorter in duration as I do feel that interest rates have to rise and that will cause bond prices to fall,” he said. “Shorter duration bonds protect against that much better than medium to longer duration bonds.”

He said with indexing, you really can’t do anything to reduce the risk.

Lynch said he also believes you’re doing yourself disservice by not looking at looking at small- and mid-cap stocks that he said generally appreciate faster than larger caps.

He said there’s also a benefit to having some money overseas.

“Your strategy basically is driven by about 20 of the largest stocks in the S&P 500 as the index is weighted by market capitalization,” he said. “I would want to spread it out a little farther.”

The other issue, Lynch said, is that the yield of the S&P 500 right now is a little less than 2 percent.

“Your bonds are yielding less than that, so you really can’t live off the yield unless you have a boatload of money,” he said.

He’d want to see at least part of the portfolio focus on income-producing securities such as Master Limited Partnerships (MLPs), Real Estate Investment Trusts (REITs), dividend stock, some high-yield bond funds and others.

“We can use indexing strategies for part of this as well but income is very important to retirees,” he said.

On reading the book you’re suggesting, Lynch said he has no problem with it, but he called allocating your portfolio as it suggests “insane.”

“If I did that I would lose my license as I have to do more due diligence,” he said. “There are many good books to read and the more that you read, the better the decisions you will make.”

He recommends titles including “The Intelligent Investor” and “One Up on Wall Street.”

Email your questions to ask@njmoneyhelp.com.

Karin Price Mueller writes the Bamboozled column for The Star-Ledger and she’s the founder of NJMoneyHelp.com. Click here to sign up for the NJMoneyHelp.com weekly e-newsletter. Like NJMoneyHelp.com on Facebook and follow it on Twitter

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