Investing is Like a Birthday Cake

By Rick Ferri, CFA

The anticipation rises as people gather around the table. You hear rustling in the kitchen, then footsteps approaching, and “Happy birthday to you! Happy birthday to you!” A cake is carefully placed in front of you, candles glowing brightly. It’s your day.

The cake is decorated with likenesses of your favorite hobby or sport, your name is written in frosting, and an appropriate number of candles stand burning on top. It makes you feel special, and you are!

The song ends and it’s time to blow out the candles. Puff. Got them all! There’s laughter and applause. You get the first piece of cake and take the first bite. The flavor hits you and it tastes… well, like any other cake. The decorations are special and so is the person who made the cake for you, but there’s nothing unique about the cake’s taste. It’s all Betty Crocker, and that’s why investment portfolios and birthday cakes are similar.

Like birthday cakes, most portfolios are unique on the outside and similar on the inside. I have analyzed thousands of portfolios over the years created by brokers, advisers, mutual funds companies, and online services. The underlying investments always hold a diversified blend of stocks and bonds, which makes the returns track the stock and bond markets. There’s not much difference in returns over the long run, before subtracting fees.

The portfolios are generally grouped by risk, so there is aggressive growth with more stocks and less bonds, and conservative growth with less stocks and more bonds. This is like Betty Crocker adding chocolate flavor for people who like chocolate cake and lemon flavor for people who like lemon cake. However, you mix a portfolio, the performance will be about the same as any portfolio with the same mix.

The people who charge fees to create and manage portfolios will always claim their customized designs are better. It’s how one adviser differentiates from another and justifies charging a higher fee. I call this investment decoration. Just as a heavily decorated cake costs more than a plain one, a heavily decorated portfolio has higher fees than plain vanilla.

Let’s analyze a decorated portfolio to see what’s going on, starting with the candles. Here we find brightly glowing expectations of great returns. It has super-hot, new-fangled funds like cybersecurity, biotech, cloud computing, and emerging China. There may also be a few individual stocks in industries where no niche fund exists yet. These are investments that make us OOH and AAH!

Next is the icing. Here we find a complex swirl of quantitative funds designed to capture style premiums like small-cap, value, momentum, and other sophisticated strategies. We may also find emerging market debt funds and bank loan funds mixed into the frosting. This is complex stuff. Don’t try it at home.

Now let’s dig into the cake itself. This is the bulk of the portfolio and its function is to keep up with the returns of the markets. There’s a diversified mix of large-cap stocks that are typically divided among U.S. and international companies, and an assortment of investment-grade bonds spread across treasuries, investment-grade debt, and perhaps some mortgage exposure.

Here’s the secret that no highly paid adviser wants you to know. The cost to invest in a basic portfolio––the cake itself––is ridiculously cheap, and you don’t need an adviser to do it. You can invest in a balanced index fund such as the Vanguard Balanced Index (Symbol: VBINX) or iShares Core Balanced ETF Portfolio (Symbol: XBAL) that have fees less than 0.20 percent per year. Vanguard also has a series of Life-Strategy index funds where you can pick your mix between stocks and bonds. These funds are well-managed, affordable, and don’t require ongoing maintenance by you or a paid adviser.

Advisers claim their special recipes are better than balanced index funds, but there’s no academic evidence supporting that claim. After paying higher fees for a highly decorated complex portfolio, the results are almost always below a balanced index fund.

Having an esthetically pleasing birthday cake is important for a once-a-year birthday ritual, but it’s not worth paying high fees for investment decorations that don’t result in extra gains. Being a successful investor isn’t about bright candles and being mesmerized by artful decoration, it’s about being smart. Learn about low-cost index funds and balanced index funds and invest in them, and then you’ll be able to afford the biggest and fanciest birthday cake you can imagine.

Rick Ferri, CFA, is the CEO of Ferri Investment Solutions, an as-needed hourly fee investment adviser. He has 30 years of experience in the investment industry as a financial consultant and portfolio manager. Visit for information or listen to his podcast at