The family history is as spectacular as the palazzo itself. The poet Dante Alighieri was a palace guest while serving as ambassador from Florence to Pope Boniface VIII in 1301. In the fifteenth century, Oddone Colonna was made bishop of Rome and took the name Pope Martin V.
In tales evocative of the Godfather films, the Colonna family warred incessantly with the Orsini family for control of Rome in the 1400s. In 1511, Pope Julius II arranged a sit-down, and the two families pledged to observe a peace known as the “Pax Romana.” In 1527, when forces of Emperor Charles V sacked Rome, the Palazzo Colonna was spared due to the family’s good relations with the Habsburgs. One prominent member of the family, Marcoantonio II Colonna, was a victorious commander, alongside Andrea Doria and Don Juan of Austria, in the battle of Lepanto, which turned back the Islamic invasion of Europe in 1571. Rewards from this Christian victory added substantially to the family fortune.
In addition to vaulted ceilings, marble floors, and gilded moldings, the Palazzo houses a priceless collection of paintings and sculptures by Tintoretto, Brueghel the Elder, and other giants of the Renaissance and Baroque periods. Marcoantonio’s aunt, Vittoria Colonna, was a poetess and muse to Michelangelo who also visited the Palazzo. Michelangelo repaid the friendship by including Vittoria’s portrait in a scene in the Sistine Chapel.
Even in the twentieth century, the Colonna family’s clout was not eclipsed—Ascanio Colonna was Italian ambassador to Washington in December 1941. He resigned his post in protest against his own government after Mussolini’s declaration of war on the United States.
On a cool Roman evening in the fall of 2012, I joined a private dinner in the Palazzo with a small group of the world’s wealthiest investors. My dinner companions were mainly Europeans, some Asians, and relatively few from the United States. Amid marble, gold, paintings, and palatial architecture, I mused on the meaning of old money compared with the new money crowd that congregated for cocktails near my Connecticut home. These phrases distinguish between old family fortunes like the Rockefellers, Vanderbilts, and Whitneys, and the new fortunes of Greenwich hedge fund mavens and Silicon Valley CEOs. Implicit in this distinction is that old money has proved they know how to preserve wealth while the jury is still out on new money busy buying yachts, jets, and sharks in formaldehyde.
Still, old money in the United States is perhaps 150 years old, or slightly older for families like the Astors and Biddles. Yet in Rome I was ensconced in a nine-hundred-year-old fortune still intact. Here was a family fortune that had survived the Black Death, the Thirty Years’ War, the wars of Louis XIV, the Napoleonic Wars, both world wars, the Holocaust, and the cold war.
I knew the Colonna family were not unique; there were other families like them throughout Europe who kept a low profile. These families are only too happy to be overlooked by the Forbes 400. That type of wealth and longevity could not be due merely to good luck. In nine hundred years, too many cards are turned from the deck for luck alone to be sufficient. There had to be a technique.
I turned to a striking Italian brunette to my right and asked, “How does a family keep its wealth for so long? It defies the odds. There must be a secret.” She smiled and said, “Of course. It’s easy. A third, a third, and a third.” She paused, knowing I needed more, and continued, “You keep one third in land, one third in art, and one third in gold. Of course, you might have a family business as well, and you need some cash for necessities. But land, art, and gold are the things that last.”
I took it that “necessities” included Tom Ford and Chanel. Still, the answer made perfect sense. Her advice followed the first rule of investing—diversification. Yet the answer denoted a deeper meaning, captured in her phrase “things that last.” That’s what I had asked her; how does a fortune last nine hundred years?
Art and gold make sense because both are portable; you can take them with you when the time comes to flee adversity. Interestingly, art is more valuable than gold by weight. In some future crisis, when gold has spiked to $10,000 per ounce, an especially valuable Picasso might be worth $500,000 per ounce. That’s not the most aesthetic way to view Picasso, but it is a way to move massive wealth across borders with minimal risk of detection. Gold requires no defense as a store of wealth. Gold has been doing that job with continual success for five thousand years.
The land component was harder to grasp at first. History is filled with conquests, looting, and political change. Land can be lost. Nevertheless, good title to land, once established, is durable. There are thousands of Cuban refugees in the Miami vicinity who will show you deeds to properties in formerly wealthy neighborhoods of Havana they took with them when they fled the Communist takeover in 1959. Those homes have been occupied by party officials for the past fifty-seven years; some were destroyed. Yet the refugees still hold title and they, or their descendants, will return someday. As the United States and Cuba normalize relations, those titles will not be ignored.
An early seventeenth-century noble, hearing marauding armies approaching his manor, could remove his paintings from their frames, stow the canvases in a sack, put his gold in a pouch, and ride away with both in tow. Months later he could return to the manor, reclaim possession, stack his gold on a table, and hang his art on the wall. His wealth would be intact while his neighbors’ wealth was perhaps destroyed.
An interesting twenty-first-century take on this millenarian portfolio is that land, art, and gold are nondigital. They cannot be wiped out by power outages, asset freezes, or cyberbrigades. They are immune from ice-nine.
Gold, in physical form, bullion bars or coins, in nonbank storage is the heart of every portfolio. Ten percent of investible assets is the right allocation. Gold has no yield (it’s not supposed to—it’s money), yet gold’s wealth preservation and insurance properties are nonpareil. Avoid so-called rare and antique gold coins: the numismatic value is nil; they are grossly overpriced. Buy new coins or bars directly from the U.S. Mint or a reputable dealer with low commissions.
Gold is more accessible than most realize. I was once a passenger in a Las Vegas taxi. My driver, Valerie, asked why I was in town. I said I was there for an investment conference. This led to a consultation on wheels. As a former taxi driver, I know there is no more captive audience than a passenger. Valerie asked for investing advice and I made my usual reference to a 10 percent gold allocation. At one point I said to her by rote, “So, if you have a million dollars, put $100,000 in gold; if you have $100,000, put $10,000 into gold, and so on. Ten percent is the right amount.”
She said, “You must be kidding, I’m fifty and have ten thousand dollars to my name; that’s it.” I said, “Fine. Buy one gold coin, put it in a safe place, and sit back. That’s your insurance. When the time comes, the government will steal your ten thousand dollars with inflation and taxes, but you’ll still have the gold.” She said she would do that, but in my experience savers do not follow through.
Land is accessible to most investors. Investors may own a home—a good start. Income-producing land, either rental properties or farms, provides current income along with wealth preservation. Retirement properties in locations attractive to prospective retirees are a good buy-and-hold investment.
The most difficult asset to access is art. Investments should be confined to fine art, either paintings, drawings, collage, or sculpture. The art should be museum quality, meaning that the artist either already has some work in a museum or is considered a good candidate for acquisition by curators.
The challenge with museum-quality art is how to buy it. A multibillionaire can pay $100 million or more for a well-known Picasso painting, not an option open to most investors. Interestingly, Picasso was highly prolific, producing thousands of small paintings and sketches along with his best-known works. Some of these pieces can be purchased for $10,000 or less. They’re worth a look.
The best way to invest in museum-quality fine art for $1 million or less is through a well-
structured, well-curated fine art fund. Not all art funds are created equal. Some are poorly structured with misaligned incentives. Some have inherent conflicts of interest with dealers who sponsor them. But other art funds are managed conflict-free with good alignment of interest between sponsors and investors, and reasonable fees. These funds may be hard to find, but they’re out there.
Of course, a one-third, one-third, one-third mix of land, art, and gold is highly stylized. That mix can never be a complete portfolio; some cash is always needed. There is also room in a model portfolio for stocks, bonds, and alternatives subject to careful selection. A family business is an asset that belongs in a separate category. From the vast industrial holdings of the Wallenberg family in Sweden to a local dry cleaner or pizza parlor proprietor, a going concern should be seen as unique and set apart, not included in an investment portfolio.
For those with expertise and uncommon connections, angel investing and early stage venture capital make sense. While risky, these investments are not blind gambles like the stock market. They are sensible risk-adjusted bets on bona fide wealth creation by entrepreneurs, inventors, and those with superior skills at executing a business plan.
High-quality bonds have a role in helping investors hit their goals. Bonds have set maturities and coupons. Investors have long-term goals like their children’s education, parental care, or retirement. With high credit quality and ancillary inflation protection—gold is good for this—a ladder of bonds can be built to deliver returns timed to meet future needs. A bond ladder is true buy-and-hold investing.
Listed equities should occupy a relatively small allocation. As late as the 1960s, some state statutes prohibited fiduciaries from purchasing stocks at all. Memories of the 1929 crash were still fresh. The stock market was considered no better than the biblical den of thieves. Until the 1970s insurance and pension portfolios were about careful selection of bonds to meet future liabilities owed to beneficiaries. Not until passage of the Employee Retirement Income Security Act of 1974 (ERISA) were the floodgates opened to allow the flow of funds from fiduciary accounts into stocks. Wall Street was the not-so-hidden hand behind ERISA, 401(k)s, mutual funds, conflict waivers, and numerous extensions ever since, all designed to normalize and enlarge the scope for risky stock investments in what should be conservatively managed wealth preservation accounts. Wall Street’s concern is for its commissions, not your nest egg.
Private equity funds are best avoided because of nontransparency, high fees, and misalignment of interests. Private equity deals begin as a looting expedition aimed at the prior shareholders of target companies. Then, the target companies are looted through special fees, preferred dividends, and sweetheart terms for fund managers. Putative profits are obtained with leverage, another form of looting when deals occasionally crater leaving banks with bad loans, although this is really a matter of one pirate band attacking another. (If banks fall into distress, taxpayer funds are available for bailouts, another form of looting.) Finally, private equity fund investors are looted because managers target acceptable bondlike returns that scarcely compensate for equity-type risks. All excess returns available through leverage are siphoned off by fund managers rather than directed to the investors. As a coup de grâce, fund managers claim capital gains tax treatment on what are thinly veiled management fees, so everyday taxpayers are looted again. This is why private equity fund mavens are billionaires living on latifundia-style estates near Telluride, Colorado, and Jackson Hole, Wyoming. There’s no reason for you to facilitate the looting or be a victim.
Hedge funds are a challenging case. They work in theory, not in practice. Hedge funds aim to produce real risk-adjusted returns, known as alpha. This is done through market timing, long-short strategies, and arbitrage. Investors who are long stocks for the long run endure periodic crashes and prolonged bear markets to enjoy spectacular bull markets. The problem is we may not live long enough to recover severe losses, or we may be forced sellers (tuition, anyone?) at market lows. Hedge funds purport to outperform long-only portfolios. Paths to outperformance—market timing and long-short strategies—are easy to describe, yet real talent is difficult to find.
Successful market timing is a rare skill done consistently only with inside information. There is legal inside information—the kind you find yourself—but the temptation to seek illegal information is one reason many former fund managers are behind bars. Successful (and legal) market timing requires out-of-the-box analysis—always rare—and nonstandard models—even more rare. Only a handful of managers offer both, and they are not much in the public eye.
Long-short strategies based on stock fundamentals are more accessible. Some stock sectors typically outperform others. In the early stages of an expansion, riskier stocks in technology and biological sciences are good bets. In the mid-stages of an expansion, small-cap stocks play catch-up and can outperform. In the late stages of an expansion a retreat to undervalued utilities and consumer nondurable producers serves investors well. Moving from one category to the other at the right time is known as sector rotation, commonly practiced on Wall Street. A hedge fund manager can go long stocks that promise to outperform, and short those due for underperformance. In this way, managers amplify gains from sector rotation and build a market-neutral firewall against shocks. Michael Belkin is a past master at this; he has peers, but not many. The problem is long-short equity managers don’t walk the walk. They crowd into flavor-of-the-month trades and are crushed when the RORO (risk-on, risk-off) wheel turns based on macro catalysts unconnected to the fundamental securities analysis the managers learned in business school.
Arbitrage is a mathematically driven long-short strategy applied to stocks, bonds, commodities, and currencies. If done properly, it works in all market conditions. Arbitrage relies on relative value. Two bonds issued by the same borrower with identical credit risk and similar maturities should theoretically trade at similar yields to maturity. Often they do not because institutions have liquidity preference for one bond over the other based on the fact that one of the bonds is more recently issued and more actively traded. Arbitrageurs can buy the bond that is “cheap,” short the bond that is “rich,” then sit tight and wait for prices to converge (this will happen at maturity, if not sooner), capturing a relatively risk-free spread.
Arbitrage can be applied to other categories of cheap and rich assets, although the less the similarity between the two, the greater the risk that perceived spreads do not converge as expected. To the extent two instruments in an arbitrage trade have low volatility and credit risk, the trade may be regarded as relatively risk-free and amplified with leverage to synthesize S&P volatility with a higher expected return.
The flaw in this neat theory of risk-free arbitrage is that in a panic, price spreads can widen before they converge. A leveraged player will be bled dry with margin calls on mark-to-market losses before reaching the promised land of convergence. Success at arbitrage also derives from market timing.
In fact, all alpha results from market timing, and the only consistent source of successful market timing is inside information. This was demonstrated by the Nobelist Robert C. Merton in an obscure 1981 paper, “On Market Timing and Investment Performance. I. An Equilibrium Theory of Value for Market Forecasts.” Inside information comes either from theft, which is illegal, or from superior analytic ability, which is perfectly legal, yet rare.
On September 10, 2009, I testified under oath before Congress on the role of risk-management models in the 2008 financial crisis. A fellow witness was Nassim Taleb, celebrated author of The Black Swan. In the hearing, Taleb and I said Wall Street compensation of “heads I win, tails you lose” design was a contributing factor to the crash. We testified that bankers were grossly overpaid and incentivized to reckless behavior. One free market oriented member of Congress chastised us from his high dais and said our proposals to limit compensation would keep Wall Street from attracting “talent.” Taleb’s answer w
as priceless: “What talent? These people destroyed ten trillion dollars of wealth.”
Taleb was right. Most traders on Wall Street are not super-talented. Decamping from an investment bank to a hedge fund does not improve a trader’s talent; it just moves the compensation model in favor of the trader. Still, there are a small number of hedge funds managed by highly talented traders using global macro, long-short equity, and arbitrage strategies. They are worth their fees, yet difficult to find.
The superstructure of a robust all-weather portfolio to preserve wealth in the coming collapse and mitigate an ice-nine asset freeze looks like this:
Physical gold and silver, 10 percent (coins and bars, no numismatics)
Cash, 30 percent (some in physical notes)
Real estate, 20 percent (income producing or agricultural)
Fine art fund, 5 percent (museum quality only)
Angel and early venture capital, 10 percent (FinTech, natural resource, water)
Hedge funds, 5 percent (global macro, long-short equity, or arbitrage)
Bonds, 10 percent (high-quality sovereigns only)
Stocks, 10 percent (natural resource, mining, energy, utilities, tech only)
A family business should not be counted among investible assets. It should be held outside this portfolio. All of these assets, except cash, stocks, and bonds, can be held by direct title in physical or contractual form without reliance on banks, brokers, exchanges, or digital records. Those assets cannot be hacked. Some are illiquid. Most are immune from ice-nine lockdowns. This allocation offers protection from inflation, deflation, and panics.
The Road to Ruin Page 31
