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Review: Worry-Free Investing by Zvi Bodie

I recently read Zvi Bodie’s Worry-Free Investing. It’s a brief book that makes basically one argument.

Bodie (a Professor of Finance and Economics at Boston University) points out that the reason stocks have high expected returns is that they’re risky. And no matter how long we hold them, there’s always a chance that that risk will show up in the form of poor returns.

Bodie argues that the long-term riskiness of stocks is dramatically understated by conventional investment wisdom and that most investors have far too much allocated to stocks and far too little allocated to safer, inflation-indexed investments such as TIPS and I Bonds. In many cases, Bodie recommends a portfolio comprised exclusively of TIPS and I Bonds.

100% TIPS?

The problem, in my opinion, is that Bodie significantly understates the rate of savings that would be required for most people to reach their goals using a 100% TIPS portfolio. The reason for this underestimate is that he makes a few shoddy assumptions:

  1. He assumes every investor will die at or prior to his/her life expectancy.
  2. He assumes that you’ll earn a 2% real return from TIPS over any time period.
  3. He assumes that the amount you pay into Social Security will also earn a 2% real return.

Life Expectancy

In Bodie’s calculations, if someone retires at 65 and has a life expectancy of 90, Bodie does the math assuming that the investor needs enough money to last for 25 years.

The catch, of course, is that approximately 50% of people will live beyond their life expectancy. Planning to only meet your life expectancy hardly seems worry-free to me.

(Real) interest rates change.

Throughout the book, Bodie assumes that you can earn a 2% real return with TIPS. This works reasonably well for an investor with a lump sum to invest, who is already some years into retirement, and who can currently buy TIPS with a 2% real return.

Of course, that overlooks a great many scenarios. For example, for the 30-year-old investor, even if TIPS are currently yielding 2% (or even more), there’s no way to know what rate of return he’ll get on the TIPS he buys at age 40, 50, or 60.

I’m not arguing that a 2% real return is unreasonably optimistic. But relying on a given return (even from a portfolio comprised entirely of TIPS) is neither risk-free nor worry-free.

Social Security is risk-free?

In most of Bodie’s examples, his math shows that the hypothetical investors need to save somewhere from 20% to 40% of their income in order to reach their goals. Bodie argues that that’s not as hard as it sounds because they’re already saving 15% of their income in the form of social security taxes.

The unspoken assumption here is that you will earn that same 2% real return on your Social Security tax payments that Bodie assumes you will earn from a TIPS portfolio.

For younger investors especially, this assumption seems questionable. Again, neither worry-free nor risk-free.

Is it worth reading?

To be clear: my point in all of this is not that TIPS are riskier than stocks. They aren’t. My point is simply that an investor following Bodie’s plan is not 100% certain of success. Not even close.

That said, Worry-Free Investing provides a thought-provoking counterpoint to the conventional wisdom of stock-heavy allocations. And for that, I’d say it’s worth reading.

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