Transparent Investing has made some headway in terms of getting noticed recently, including mention in a daily newspaper, the San Jose Mercury News, and several blog postings, such as one by the Bogleheads, a group dedicated to indexing, Vanguard and, of course, its founder John Bogle. (For further details see the Bogleheads website at http://www.diehards.org/forum/viewtopic.php?t=7112&mrr=1192487443.) Many of these observers have commented positively on Transparent Investing, often referring to it as a good place for investment beginners. While the website is meant to provide a useful introduction to beginners, among others, it’s easy to miss the additional analytic details targeted to more sophisticated readers. For example, not only most investors but also most advisors tend to be woefully ignorant of the true tax consequences of how they invest, and unsure about how best to optimize a portfolio to take fullest advantage of tax-qualified plans such as 401(k)s, a topic which is discussed in some detail on page 17 of the Full Story.

One of the great challenges of getting consumers to believe in basic index portfolios lies in the prejudice that something so simple must be a “dumbed down” version of good advice. The academic research over the past thirty years has been highly rigorous and anything but simple. However, the conclusion that a simple index portfolio provides the best solution just seems implausible to many consumers. Remember that indexing isn’t the best choice because it’s simple; it’s the best choice because the results have been so superior. It also happens to offer the added benefit of being simple both to understand and to implement.

On the other side of the complexity spectrum, I sometimes get questions that are beyond the scope of this blog and more appropriate for discussion among researchers in academic finance. It’s not that such topics aren’t quite interesting, it’s just that they’re not necessarily appropriate for general investors since they can be pretty arcane. (Warning: arcane content ahead!)

For example, recently a reader of this blog posted a question on an approach to retirement investing proposed by Zvi Bodie, a well-respected finance professor at Boston University. Bodie suggests a portfolio with a mixture of inflation-adjusted bonds and stock index call options. For many investors saving for their retirement, Bodie claims that such an approach can offer a superior outcome when measured by investor utility, a fancy way of saying how happy it’s going to make those investors.

Bodie is really raising two separate issues, one about the concept he labels “human capital risk” and the other about the mixture of call options and inflation bonds as the best portfolio for certain types of investors. The idea behind human capital risk is that your investment choice should depend not only on your risk tolerance and time horizon but also your industry’s exposure to the stock market and to job loss in general. For more details, see his article “Making Investment Choices as Simple as Possible: An Analysis of Target Date Retirement Funds” at http://papers.ssrn.com/sol3/papers.cfm?abstract_id=900005. Bodie’s application of human capital risk may eventually become more widely accepted, but as of now it’s still pretty new and untested.

As for the mixture of calls and inflation bonds, keep in mind that in any such portfolio you’re merely trading one payoff distribution for another. Bodie shows some good graphs on page seven of another article: “Retirement Investing: A New Approach,” http://prc.wharton.upenn.edu/prc/PRC/WP/wp2001-8.pdf. Such portfolios can be perfectly good alternatives to a standard long index holding, but remember that there are no magic bullets here, only different distributions of payoffs. Bodie's proposal does offer one subtle benefit over straight indexing: no one would condescendingly describe a mixture of long-term out-of-the money equity index call options plus inflation bonds to be a "dumbed down" portfolio suitable only for beginners.