Holistic Portfolios and Your House

January 20th, 2010 by Potato

Larry McDonald is giving people a sneak peek at Professor Milevsky’s upcoming book. One neat concept is the idea of a “holistic porfolio” — that you decide on your investments not just based on your risk tolerance and time horizon, but also on your human capital and career. I think I’ll add it to my summer reading list (as soon as I find my summer reading list in the move) as it sounds like a neat idea that I could get behind. Jonathan Chevreaux mentioned a similar concept in Findependence Day. So, as he says, if you’re an investment banker, maybe you should have a portfolio that is largely bonds, since your human capital is very stock-like: your job security and salary are probably closely linked with the equities market. Vice-versa, teachers are very bond-like with a stable job that is not sensitive to economic conditions, and a healthy pension to boot. So what money they invest should be largely in equities.

So, what about homeowners? On the one hand, a mortgage is like being short bonds – a negative bond, since you’re borrowing money rather than lending it. To compensate for that, Prof. Milevsky suggests homeowners should own bonds (and avoid REITs to prevent over-exposing themselves to real estate). Buying a house may also be like buying stocks because of the long-run returns, and sensitivity to economic conditions.

However, I questioned that, since I don’t think a person could expect positive after-tax returns in bonds when borrowing with a mortgage (maybe in corporates, but not by much) — you’d probably be better off paying down the mortgage. It’s important to be diversified, but does it make sense to do so without an expected return? Also, while the mortgage may be like a negative bond, to me the house itself is bond-like since it’s interest-rate sensitive and a slow, steady grower. Obviously there I’m disagreeing about houses being stock-like, and I might have to wait for the book for the full explanation of why I might be wrong. Though real estate may be best considered as its own asset class and perhaps we shouldn’t try to shoe-horn it into the bond-like/stock-like paradigm.

It promises to be an interesting discussion, so please feel free to jump over to the Canadian Business Online blog and join in with your thoughts!

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