The Intelligent Asset Allocator (IAA) by William Bernstein does exactly what it says on the cover, it teaches you ‘how to build your portfolio to maximize returns and minimize risk’. However, I would recommend that 95% of readers not buy it. Come again? Instead, I would recommend the later book by the same author, The Four Pillars of Investing (review). Even though Bernstein himself refers to it as for the ‘liberal arts’ audience, I have an engineering background and I still like Four Pillars much, much more. It just feels more refined and easier to follow.
Both books seem to cover the same general topics, with IAA giving you a clearer mathematical basis for his conclusions. To me, here are the main ideas within the book:
1) There is very little evidence that, on the whole, actively managed funds outperform the market. In fact, if you just buy what’s been hot the last 5 years, history has shown that you would consistently underperform the S&P 500 afterwards. In other words, don’t chase past performance.
2) As risk increases, so does the return. But that doesn’t mean you should just go out and buy the one riskiest thing you can stomach. Your goal is to get the maximum return out of your acceptable amount of risk.
3) To achieve the goal in #2, you must construct your diversified portfolio out of multiple asset classes which will work in combination to reduce risk. The vast majority of your returns come from your asset allocation mix.
4) You can’t guarantee your future returns, or expect them to follow historical returns exactly. What you can do, is to optimize your portfolio using that data to give you the best chance at achieving the highest returns.
5) Minimize expenses and taxes by choosing no-load index funds with low expense ratios, and by carefully placing each asset where it will be most tax-efficient (taxable vs. tax-deferred accounts).
Finally, in the end, the book gives you some advice on how to choose your specific asset allocation and then implement it using Vanguard or DFA funds. Again, I found the same section in Four Pillars to be easier to follow, and I’ve found myself referring back to it instead of IAA to plan my portfolio.
Summary
Read Four Pillars of Investing first. If you like things like standard deviations and statistics, then pick up The Intelligent Asset Allocator. They are both excellent books, with different approaches to teaching the same material.
Overall Rating: 
(ratings explained)
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I agree on this. I just read both of these too and also have an engineering background. I thought 4 Pillars was more interesting (the history and psychology of finance sections were fantastic). IAA has a few useful charts that are missing from 4 Pillars, but J is right, you’re not going to get much more out of it.
Also, I think J’s five-point summation of the book is probably the most succinct and correct description of proper long-term investing that I’ve seen.
J – what will you use for a resource for historic returns of asset classes?
Bravo – Well put. Your summary is pretty much in line with Paul Merriman and IFA 12 Step to financial freedom. I guess I’ll be reading 4 Pillers shortly.
SNL skit
I expect followers of your blog will be especially entertained by this. 🙂
Ever since I read the article in Business Week I am a big fun of this blog! Thank you all for the great info. I started investing less than half a year ago and am still learning a lot. I’ve grown very fond of etf’s and the flexibility to trade them all day long. I’ve been looking for an etf tracking the sensex or one that has any India exposure. Any feedback.
Nick Dangerous – LOL. That ranks as one of the most entertaining SNL skits ever.
In response to the issue of where you get historical returns data–this is key. You actually do not want to use pure history. You would thereby just end up following the top performing asset classes to some extent. Also important is actually quantifying diversification effects. Many emerging markets funds actually have Betas greater than 100%–they can actually increase your exposure to the U.S. markets, for example. I have some articles on these topics at:
http://www.quantext.com
I also write a lot on ETFInvestor.com
Another book I’d highly recommend is “The Millionaire in You” by Michael LeBoeuf