Imagine a couch potato for a moment. A beer resting on his gut, he lies on the sofa watching football. The only time he perks up is when the home team scores or when a streaker (why are they always men?) races across the turf.

It might be hard to believe, but an investment strategy inspired by sloth runs circles around most professionally managed portfolios. Practitioners of the strategy spend less than an hour each year on their investments. They don't have to follow the economy, read the Wall Street Journal, subscribe to online investment publications, or hire an advisor. This champion slacker is called the Couch Potato portfolio.

Devised by former Dallas Morning News columnist Scott Burns, the original Couch Potato portfolio is an even split between a stock and a bond market index. It's easier to manage than a crew cut. If you invest $1,000 per month, you would put $500 into the stock index and $500 into the bond index. After one year, you would see whether you had more money in stocks or more in bonds. If you had more in stocks, you would sell some of the stock index, using the proceeds to buy more of the bond index. Doing so realigns the portfolio with its original allocation: 50 percent stocks, 50 percent bonds. Scott Burns says anyone who can fog a mirror and divide by two can pull this off.

Don't Bonds Tie You Down?

Many investment cowboys think bonds are boring and unprofitable, and have no place in a portfolio. It's a good thing such Wild West throwbacks (even if they're bull‐riding studs) aren't running government pensions, corporate pensions, or university endowment funds. Responsible individual and professional investors understand the importance of bonds in a diversified portfolio.

Short‐term first‐world government bonds or short‐term, high‐quality corporate bonds don't pay scorching interest, but they're safe. The easiest way to buy a basket of them is through a bond market index.

Is It More of a Fling than a Real Relationship?

You might wonder why anyone would choose an index of short‐term bonds over those with longer terms. If you buy a long‐term bond paying 4 percent annually over the next 10 years, inflation could always erode its purchasing power. The bond may pay 4 percent annually, but if you're buying fuel for your car that increases in price every year by 6 percent, you're losing to a tank of petrol.

For this reason, buying indexes of bonds with shorter maturities (such as one‐ to three‐year bonds) is usually wiser than buying indexes with longer‐term bonds. When a bond within a short‐term index matures, it gets replaced. If inflation rises, the newly purchased bond will offer higher interest yields, allowing investors in short‐term bond indexes to exceed inflation over time.

Over long periods, bonds aren't as profitable as stocks. But they stabilize portfolios. And despite what many people think, bonds sometimes outperform. Check out the 11 years between 2000 and 2011 shown in Table 7.1.

US stocks dragged. Bonds performed well. Not only did Couch Potato investors have skin in the better‐performing asset class (bonds) but, as always, they bought low and sold high. Recall how this works (three steps):

1. Once a year, investors look at their portfolios.
2. They identify whether they have more money in stocks or more in bonds.
3. If their stocks beat their bonds that year, they sell some stocks to buy bonds; or if their bonds beat their stocks, they sell some bonds to buy stocks.

By rebalancing once a year, Couch Potato investors sell a bit of what's hot and buy a bit of what's not. They manage money much like disciplined government‐held pension systems. Most other investors do the opposite: they buy high and sell low. With a Couch Potato portfolio and a bit of discipline, investors avoid such lunacy.

Because stocks beat bonds over time, having bonds in a portfolio reduces returns—but not by as much as you might think.

In Table 7.2, you can see the results of the US Couch Potato portfolio built with various risk tolerances between 1986 and 2017. For example, the Classic Couch Potato (50% bonds, 50% stocks) is conservative. It would have turned a $10,000 investment into $119,080. A higher‐risk Couch Potato Portfolio (20% bonds, 80% stocks) would have turned $10,000 into $162,219.

Are You Worried That Bond Interest Rates Are Low?

Over the five‐year period ending May 8, 2017, the S&P 500 index averaged a compound annual return of 14.38 percent. Bloomberg Barclays's US Aggregate Bond Index gained a compound annual return of just 2.13 percent.

Bond interest rates are low. But bonds always deserve a role.

Let me ask a couple of questions:

• Will bond yields remain low over the next 1‐, 3‐, 5‐, or 10‐year periods?
• Will stocks hit new highs over the next 5 to 10 years?

If you know the answers to those questions, congratulations. You can see the future. So stop reading this and go out and save some people.

Unfortunately, nobody can see the future. But here's what we know. Long‐term, stocks beat bonds. That doesn't mean stocks always beat a diversified portfolio of stocks and bonds. Take the 17‐year period from 1996 to 2012. The S&P 500 gained a compound annual return of 6.92 percent. A combination of stocks and bonds actually did better. A portfolio with 60 percent in an S&P 500 index and 40 percent in a broad US bond market index gained a compound annual return of 7.01 percent. Such an investor would have taken lower risk and earned higher returns over that 17‐year period.

In 1996, nobody knew that a portfolio split between stocks and bonds would beat the S&P 500 for close to two decades. Likewise, nobody knows if a stock market index will beat a balanced portfolio over the next 17 years.

But I recommend portfolios that include bonds because they can collar your inner Neanderthal. When stocks fall, portfolios with a bond allocation don't fall as far. For example, from September 2000 to September 2002, a $10,000 investment in the S&P 500 index would have dropped to $5,518. The same $10,000 would have dropped to $7,779 if it were invested in a balanced portfolio (60% stocks, 40% bonds).

People often freak out when their portfolios fall a lot. They often sell low, hammering nails into their feet. They often jump back in (at a higher price) after the market has recovered. Balanced portfolios, with bonds, might prevent investors from this kind of hammering.

Most people know that bonds aren't sexy. Their yields aren't high. But looking at a bond index fund's current interest yield tells nothing about its future. A bond index is a revolving door of bonds. When bond prices drop, new bonds are picked up at the lower price. When interest rates rise, the newly purchased bonds collect higher rates of interest.

Portfolios with higher stock allocations earn better, long‐term returns. But, as seen in Table 7.3, they don't win every year or every decade.

The Couch Potato portfolio is effective for two reasons: It's diversified and cheap, costing as little as 0.10 percent per year.

It's also an insult to Wall Street. Most hedge fund managers (known as the smart money to the gullible) underperformed the Classic Couch Potato portfolio (50% stocks, 50% bonds) every year between 2002 and 2017.

Potatoes Growing Globally

The original Couch Potato portfolio is simpler than a ham‐and‐cheese sandwich: diversify between stocks and bonds, and rebalance. Further diversification, however, sometimes enhances returns and reduces volatility.

The founding editor of MoneySense magazine, Ian McGugan, won a national magazine award for adapting the Couch Potato for Canadians. He included two stock market indexes instead of just one. McGugan suggested investors split their money into three equal parts: a Canadian government bond index, a US stock index, and a Canadian stock index. Back‐tested to 1976, rebalancing such a portfolio would have beaten the returns of a pure Canadian stock index, and with far less volatility.

Here's how it works. An investor puts 33 percent of her money into bonds, 33 percent into the US stock index, and 33 percent into the Canadian stock index. If by year's end, her bonds now represent 40 percent of her total portfolio's value (which would occur if stocks had fallen), she would sell some of her bond index, adding the proceeds to one or both of her stock indexes. Doing so realigns her portfolio with its original allocation.

She could also rebalance with monthly or quarterly investment purchases without selling anything. If her bonds rise above 33 percent of her total, she could add fresh money (from her salary) into one or both of her stock indexes. If her US stock index rises the next month, while her Canadian stock index and bonds remain flat, she could add money (again, from her salary) to either Canadian stocks or bonds. The idea is to keep the portfolio aligned with the goal allocation.

Table 7.4 shows how a Canadian Couch Potato portfolio would have performed between 1976 and 2017 with no fresh money added.

Depending on the time period, sometimes rebalancing with stocks and bonds enhances returns, compared to a pure stock portfolio. Other times, it lags. But two things are certain. Diversified, rebalanced portfolios increase stability over pure stock portfolios. And if investment costs are low, they distribute good long‐term returns.

Bonds Relative to Age and Risk

There's a rule of thumb suggesting your bond allocation should reflect your age. It's a broad generality that depends on your risk tolerance and other sources of retirement income. As a 47‐year‐old, my personal portfolio has roughly 40 percent in bonds. I like a degree of stability, but I also want to ensure that my money has high odds of growth. That's why, regardless of my age, I won't increase my bond allocation beyond 40 percent of my total.

Knock on wood, it's possible that you might see me waterskiing in my 80s. If you see me, scream out, “Hey Andrew, what's your bond allocation?” If my hearing aids work (I'm guessing I might have them by then), I'll yell: “Forty percent of my portfolio's total!”

But consider your personal circumstance. If I were working in Canada and eligible for a school district's defined benefit pension, I would prefer to have about 25 percent of my money in bonds. I could afford to take higher risks, assuming my pension would have bond‐like stability.

What If You're Falling Behind?

Investors arriving late to the investment game or trying to recover from the ravaging fees of an offshore pension sometimes consider taking higher risks to recoup lost time. But they shouldn't.

Assume an investor shuns bonds. If she retired at the end of 2007 with a US stock portfolio, her money would have fallen 37 percent in 2008. A portfolio split evenly between US stocks and bonds (for example) would have fallen just 16 percent.

Stock market drops are great for young people. But they're nightmares for undiversified retirees. While young investors can capitalize on falling stock markets by investing at lower prices, retirees must do the opposite. They require their investment proceeds to cover living costs. So they're selling.

If global stock markets collapse and remain low for years—which can certainly happen—retirees without bonds could be selling at a loss, year after year. Increasing a portfolio's risk to compensate for lost time is hardly worth the gamble.

Profiting from Panic—Stock Market Crash 2008–2009

When stock markets fall, many people panic and sell, sending stocks to lower levels. Dispassionate investors, however, lay foundations for future profits. My personal portfolio was far larger just two years after the financial crisis, compared with its level before the crisis scuttled the markets. Keeping my portfolio aligned with my desired allocation of stocks and bonds was the key.

I started 2008 (before the stock market crash) with bonds representing 35 percent of my total portfolio. When stocks fell I was thrilled, continuing to add monthly salary savings to my stock market indexes.

Unfortunately, despite buying stocks every month during the crash, I still couldn't get my stock allocation back to 65 percent of my total. By early 2009, my portfolio had far more allocated to bonds than to stocks.

As a result, I sold bonds in early 2009, realigning the portfolio to my desired allocation.

Naturally, I hoped the markets would remain low. But they didn't. As the stock markets began recovering later that year, I switched tactics again and bought nothing but bonds for more than a year. I was low on bonds because I had sold bonds to buy stocks, and my stocks were leapfrogging in value. Before long, my stock allocation dominated the portfolio. At that point, I even had to sell some of my stock indexes to add to my bonds.

This kind of rebalancing is common practice among university endowment funds and pension funds.

There's no magic formula to rebalancing a portfolio; don't get sucked into minutiae. Frequent rebalancing won't necessarily earn better returns than rebalancing annually on Elvis's birthday. Choose a date to rebalance and stick to it.

Owning the World

Purchasing a global stock market index provides the world's broadest stock exposure. Such products are fabulous portfolio building blocks. Stocks in a global index are weighted based on something called global capitalization. Here's what that means. Imagine owning every single stock on the planet. You're the grand poobah owning everything. If you sold every stock in 2017, you would have had about $80.9 trillion in cash. What percentage of that money would have come from each country's stock market?

Answering this question provides a global capitalization breakdown. The United States represents roughly 53 percent of global capitalization, meaning 53 percent of the proceeds you would receive (after selling every stock on the planet) would come from the United States.

Vanguard's global stock market ETF (exchange‐traded index fund) comprises 53 percent US stocks and roughly 13 percent emerging‐market stocks, with the remainder split among other developed world markets in proportion to their global capitalization.

Owning the world through a global index might make you feel like Julius Caesar, but you shouldn't neglect your own backyard. The Canadian stock market, for example, makes up less than 5 percent of global capitalization. Consequently, a global index has very little Canadian exposure. But if you'll eventually repatriate to Canada (or any other developed market country), exposure to your home‐country market is important. After all, it represents the currency in which you'll pay your future bills.

Where Do You Plan to Retire?

Americans should have a nice chunk of US exposure if they plan to retire in the United States. Canadians, Australians, Brits, Europeans, Singaporeans, or any other nationality with an established stock market should do likewise with their home‐country market.

Keeping it simple, you could split your stock market money between your home‐country index and a global index.

For example, a 30‐year‐old British investor could have a portfolio consisting of 30 percent government bonds, 35 percent global stock index, and 35 percent British stock index.

An American's portfolio composition would be different: 30 percent bond index and 70 percent global stock index.

You may be wondering where the US stock market fits into the 30/70 portfolio. Global stock indexes contain roughly 53 percent US stocks. As a result, no separate US index would be required.

If you're making monthly investment purchases, you need to look at your home country stock index and your global stock index, and determine which one has done better over the previous month. You'll know by looking at your account statement and comparing it with the previous month's report. When you figure it out, add newly invested money to the index that hasn't done as well, to keep your account close to your desired allocation. Remember that if each stock index soared over the previous month, you would add fresh money to your bond index.

What do most people do? You guessed it. Metaphorically speaking, they sign long‐term contracts to empty their wallets each morning into the trash bin—buying more of the high‐performing index and less of the underperforming index. Over an investment lifetime, such behavior can cost hundreds of thousands of dollars.

Please note that I'm not talking about chasing individual stocks or individual foreign markets into the gutter. For example, just because the share price of company Random X has fallen, this doesn't mean investors should throw good money after bad, thinking it's a great deal just because it has dropped in value. Who knows what's going to happen to Random X?

Likewise, you take a large risk buying an index focusing on a single foreign country, such as Chile, Brazil, or China. Who really knows what's going to happen to those markets over the next 30 years? They might do really well. But it's better to spread your risk and go with a global stock market index (if you want foreign exposure). With it, you'll have exposure to older world economies such as England, France, and Germany, as well as younger, fast‐growing economies like China, India, Brazil, and Thailand. Just remember to rebalance. If the global stock market index outperforms your domestic index, don't chase the global index with fresh money. If your domestic stock index and the global stock index both shoot skyward, add fresh money to your bond index.

Investors with portfolios tilted heavily toward emerging markets (e.g., India, Brazil, China) take massive global capitalization risk. Emerging markets make up roughly 13 percent of global market value. So it makes little sense for most investors to have more than 13 percent of their portfolios in emerging‐market stocks.

If you're convinced such markets will provide massive future returns based on their economic growth, temper those expectations. As mentioned in Chapter 1, data on emerging‐market returns aren't as strong as you might think.

So why bother with emerging‐market stocks? The future is always uncertain; performance from emerging‐market stocks may eventually overtake their developed‐market counterparts. Anything can happen.

The Chinese market is an interesting example. At times, its results are scorching, gaining hundreds of percentage points over short periods. But it usually follows with flame throwers to investors' butts.

While emerging‐market stocks could do very well in the future, it's important not to reach too far beyond their globally capitalized footprint. Therefore, maximize their exposure to 13 percent (or less) of your portfolio's total value. Fortunately, a global stock market index contains emerging‐market shares.

Are You Retiring in an Emerging‐Market Country?

Those retiring to an emerging‐market country should remember a few things. Emerging markets tend to be volatile. Their stocks can fall dramatically. Inflation in such countries can run like a pack of Kenyans. Depending on economic stability, currencies can plummet. For this reason, if you plan to retire to a developing country, consider lighter exposure to its stock market.

Does This Sound Too Good to Be True?

When something sounds too good to be true, it usually is. Such is the case with the Couch Potato portfolio. While simple to administer, few people have the willpower. Human nature works full‐time to derail sound investing plans. Nowhere is this more evident than with the questions I receive on my blog.

Sometimes after making an investment purchase, I write a post explaining what I bought and why. I follow a simple Couch Potato strategy: maintaining 40 percent bonds and 60 percent stocks. But a consistent theme rings true. Many of my readers are tempted to speculate based on an expert's opinion online, on television, in the newspaper, or on the radio.

• “I read that it's a bad time to invest in bonds.”
• “Some guy on CNBC says US stocks are going to crash.”
• “I just read a report suggesting emerging markets are set to soar.”
• “Why invest in a global index when Europe's in the poop?”

Most forecasts prove wrong. Without capacities to ignore financial puffery, many investors fail. Financial news agencies and journalists are always looking for a piece to pen. Journalists failing to promote urgency jeopardize their jobs.

Because the media tries pulling you by the privates, successful investing requires a strong anesthetic. You're better off blind, deaf, and numb. By rebalancing a portfolio on a predetermined schedule, you'll always be buying a little when others are selling, and selling a little when others are buying.