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- Rob Arnott, the founder and chairman the Pimco subadviser Research Affiliates LLC, is a man whose expertise is so respected that multiple large firms license his investment ideas.
- In an exclusive interview with Business Insider, Arnott explained why he thinks target-date funds — a wildly popular way to invest for retirement — are a far worse option than many think.
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Rob Arnott is no fan of conventional wisdom. In fact, when presented with a widely accepted idea or conclusion, his first reaction is to try and disprove it.
It’s a strategy that’s worked well for Arnott since the start of his career. After years spent watching investors adhere to outdated, if not completely inaccurate philosophies, he decided to challenge those long-standing ideas.
Arnott’s first task was to assess the time-honored tradition of weighting equity indexes by market capitalization. He instead backtested a technique that weighted stocks by revenue, and found that the approach had beaten its market-cap counterpart for decades.
With that epiphany, he was off and running — and a whole new investing subgenre was born.
Fast forward to the present, which finds Arnott continuing to spread the gospel of an investment strategy known as "smart beta," which has evolved into one of the world’s hottest investment strategies.
The backbone of smart beta is a technique he’s pioneered called fundamental indexation, which is a practice that involves buying high and selling low and then using that rebalancing as a source of alpha. After that, any time the link between the price of a stock and its index weighting is broken, the strategy sells on strength and buys on weakness.
If there was any question whether the investing elite like what Arnott has to offer, consider the fact that his firm, Research Affiliates, oversees more than $200 billion for other huge firms. And his roster of licensees includes the likes of Invesco, Charles Schwab, and Pimco.
Challenging traditional retirement conventions
In recent years, Arnott has found a new area of conventional wisdom to challenge: the best way to save money for retirement. More specifically, he’s focused on target-date funds, which start out risky when a person is younger before systematically ramping down portfolio risk as retirement approaches.
Put simply, Arnott is no fan of the industry, which he says is now close to $1 trillion in size. And the opinion goes well beyond a lack of efficacy.
He points out that target-date funds can often have the opposite effect that an investor intends. That means peoples’ portfolios could possibly get riskier later in their careers — the exact situation they’re trying to avoid.
"No one’s ever tested its core thesis, which is that starting aggressive and then getting more conservative as you get older leaves you with more money in retirement and less risk when, in fact, it does the opposite," Arnott said.
To that end, Arnott did his own testing, and found that — over a 41-year period — the inverse of the target-date strategy actually outperformed.
So what can a young professional do instead? For starters, go with a less risky portfolio right off the bat. Arnott said in an October 2014 study that this lessens the downside risk if unforeseen circumstances or unemployment require an individual to cash out prematurely.
Further, in a September 2012 piece, Arnott laid out a handful of straightforward behaviors that he says will improve anyone’s financial longevity. They include saving aggressively, spending cautiously, and working a few years longer.
After all, as he put it: "No strategy can make up for inadequate savings or premature retirement."
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