The Affluent Investor – Book Review

I read or skim through just about every financial book I can find. I tend to only review the physician-specific ones on this website, but I occasionally make an exception for one that I think is particularly good. The Affluent Investor is one such book, and of all the books I've read this year, probably the one I learned the most from. That's saying quite a bit, since the law of diminishing returns definitely applies to personal finance/investing books, and I've read far more than my share.

The Affluent Investor is written by Phil Demuth, PhD, who has written nine books with Ben Stein of Ferris Bueller (Bueller? Bueller?) fame. In this one, he strikes off on his own (although Stein still wrote the introduction.) Demuth is a psychologist and an investment adviser (I can't think of better preparation for the advisory role.) What I like most about Demuth's books, including this one, is that he is a Boglehead at heart, but not rigid about it, and his books are always throwing in little things to make you think about all the little investing decisions you have to make.

For example, the fifth chapter “The Market Portfolio” introduces all the concepts you expect to find in a typical Bogleheads Book, although he includes a portfolio called the global market portfolio which includes 40% in Total Stock Market (TSM), but also 1% in private equity, 5.5% in real estate, 2.5% in hedge funds, 2.1% in TIPS and 0.7% in commodities. Then at the end of the chapter concludes with the Global Market Lite, your classic 3 fund portfolio with TSM, TISM, and TBM. The sixth chapter goes beyond the market portfolio and introduces the concept of factors including small, value, momentum, and low beta and why paying attention to these may best the market portfolio. Then, as if that isn't bad enough, chapter 7 talks about (gasp!) individual stocks and some alternative investments and when you might consider going down these routes.

The entire book is aimed at the “affluent” but he defines that pretty loosely- basically anyone with a portfolio of $100K or more. But, just like my book, 95% of what is in the book is useful to any investor. He has a very interesting chapter where he applies the concept that you ought to invest differently depending on your occupation. For example, a Wall Street trader ought to invest conservatively and a doctor ought to invest aggressively, since their jobs are either very risky or relatively secure. The last couple of chapters (asset protection and tax reduction) are also pretty useful and entertaining.

 

Disagreements and Errors with The Affluent Investor Book

Anytime someone gives as much as advice as Dr. Demuth packs into this book, there's bound to be something for every investor to disagree with. It's a good time to remember Taylor Larimore's adjunct that there are many roads to Dublin and to investing bliss. However, I was surprised Demuth was so negative about immediate annuities. His basic argument was that due to low interest rates annuities paid so little that those who can fund a retirement on them don't need them anyway. However, he fails to mention that for the elderly the mortality credits are far more important than the prevailing interest rates.  A 70 year old can still get a nominal SPIA paying 8%+ and an inflation indexed SPIA paying 6%+.

I only found one error in the book. I was so surprised by it that I emailed Demuth out of concern that I was wrong and he was right. Here was my email:

I very much enjoyed your recent book, The Affluent Investor and learned a lot of new things from it, which is something I cannot say about most personal finance and investing books (the law of diminishing returns after reading dozens of them I suppose.)

I was really surprised to learn about the “Success Tax” (page 189) which the book says is an additional 15% on any IRA distribution over $150,000 in a given year. However, further research into the subject seems to indicate this was repealed with the Tax Relief Act of 1997. Is that incorrect or has it been reinstated, or is it simply an oversight in the book?

Here was his (almost immediate) response:

What an honor to hear from the founder of the White Coat Investor site! And how embarrassing to have to tell you that the Success Tax item in the book is wrong, wrong, wrong. I was an idiot for not catching it.  Obama did threaten to reinstate it at one point, but that idea went nowhere.  

Many thanks for your kind words about the book.  The anecdote about the doctor and the racehorse is true.  I wrote a Forbes.com column about doctors a little while ago as well. You are providing a GREAT service and physicians everywhere are in your debt.

What a classy response! I was a little bummed because I had this column all planned out about the success tax, until I started researching it further! But I was happy there is no more success tax.

 

Should You Read The Affluent Investor? 

Overall, there wasn't a single chapter in the book that I didn't enjoy and that wasn't worth my time. I learned something new from every one of them. Here are a few “pearls” to give you a taste for the book:

Having written seven investing books for the general public with my pal, economist Ben Stein, I wanted to write something more narrowly addressing the needs of people like my clients, the high-net-worth investors. I have knocked around the financial services business for a while now and picked up a few crumbs of local knowledge to pass along. There are lots of investment books for beginners, but the affluent investor is actually an underserved market segment. Most of what is dished up for them is just marketing mumbo jumbo designed to ensnare them in Wall Street's wealth expropriation machine.

What with advisor fees, bid-ask spreads, commissions, sales loads, fund management fees, bid-ask spreads on security purchases, soft dollar arrangements, marketing fees, and market impact costs..expenses can easily add up to over 3 percent per year….It is extremely hard to accumulate wealth with this big of a hole in your pocket.

The main advantage of self-management is that it is much cheaper if you do the work yourself….Naturally there is a price to self-management as well. For one thing, your advisor might be an idiot.

Your psychological predisposition to take or shun risk is irrelevant to the ultimate means to reach your investment objectives…If you are a sensitive soul who can brook no paper losses, the solution is to get a grip, not to invest “safely” if that locks in running out of money when you are old.

It makes perfect sense that a genius about money who discovered a way to beat the market– a secret worth billions of dollars if it existed–would choose instead to monetize his insight by selling it to chumps like you and me for $299 a year.

How do you integrate these caffeinated strategies [small, value, momentum, low beta] into your portfolio? There is no a priori solution: good arguments can be made for 0 to 100 percent allocations. The more you tilt away form the market portfolio, the greater your possibility of excess returns, but also the greater your certainty of different returns….Under conditions of uncertainty, a defensible approach is to divide your money equally among…strategies. This sounds naive but you would be surprised how often this works.

The fund to own [in junk bonds] is Vanguard's, which has a gimmick: it buys the highest rated junk bonds. Many institutional investors can only hold investment grade bonds as a matter of policy and they are forced to liquidate bonds that get downgraded even when it makes no sense to do so. Vanguard lies in wait to take advantage of their mistake. This is a hedge fund strategy in a bond fund wrapper….[although] I would put this fund in the same category as equities [since] it was down 21 percent in 2008.

Ohio's 529 Savings Plan has the best combination of protection from creditors and low fees….I would be tempted to donate to my own state's plan, take the tax deduction, then wait a year and transfer the account to the Ohio plan.

Especially for young high-earners, [retirement] accounts are a money machine. This is one of the hiccups in the tax code that favors the high-net-worth, so take advantage of the opportunity.

I hope that gives you a sense for the book. I suggest you purchase it on Amazon or borrow it from the library at your earliest convenience. I'm adding it to my list of recommended books, although it probably shouldn't be the first investing book you ever read.

Have you read the book? What did you think? Comment below!