Just actively buy low and sell high, or passively buy cheaper index funds. Oh, or just hire a computer to unemotionally model a portfolio on your behalf. The real world is routinely a little more complicated and no easy glide-path exists in life or investing. Still, I offer a simple asset allocation framework at the end.
Keep a full toolkit and diversify your resources,
methods, and judgments.
Decision-making has become a lot more confusing for pros and novices due to unprecedented global Central Bank manipulations, the euro zone experiment, and the overwhelming amount of information, opinions, and recommended investing strategies. Whether a fiduciary advisor or self-directed individual investor, active or passively inclined, please focus on risk management. Also, it helps to seek trusted mentors who will challenge your portfolio strategies and convictions.
End of Days?
It has been over 2,300 days since the S&P 500 bottomed in March 2009: The average bull runs lasts about 1,240 days. The last stock market correction in the U.S. began in August 2011, when the U.S. Congress fought over the U.S. debt ceiling and federal budget, causing Standard & Poor’s to downgrade the sovereign debt of the United States. However, remember the 1987-2000 bull run lasted nearly 4,500 days.
Days Don’t Mean Much. How About Valuation?
Trailing S&P Price-to-Earnings is about 20X; however, the popularly used Cyclically Adjusted PE Ratio (CAPE Ratio or Shiller Ratio) is 26.5X. Courtesy of the superb resources of Karl Case and Robert Shiller.
Data on Investor Skills
The excellent Dalbar organization tracks actual returns earned by investors by analyzing mutual fund purchases and redemptions. Per the statistics, the average stock fund investor underperformed the S&P 500 by a gap of 8.19% in 2014 and an average annual deficit of 4.66% over the previous 20 years. The average bond fund investor underperformed the Barclays Aggregate Bond Index by 4.81% in 2014 and an average annual deficit of 5.40% over the previous 20 years.
In 30 years of monthly investor returns, Dalbar found that equity investors underperformed the S&P 500 to the greatest extent in October, 2008. In this month, equity investors lost 24.21% compared to an S&P loss of 16.80% for a net underperformance of 7.41 percentage points. The next greatest underperformance occurred in March, 2000, when the S&P surged 9.78% but investors took home only 3.72% for an underperformance of 6.06%.
It’s really hard to invest throughout the emotional cycle shown in the opening chart. Bad investor decisions come at the most critical points; whether in the face of severe market declines or when the equity market surges.
Simple Asset Allocation Framework
Ark: This core and stable vessel is built to last, to withstand storms, to leave mostly untweaked in times of stress–emotional or market related. This majority of my portfolio should be untethered to a reliance on any one central bank, one asset class, one direction of interest-rates, or my ability to outguess new bulls or bear markets. This is not to say that significant shifts in underlying investments simply stay put forever or that damage will not occur. More importantly, this reliable piece of my asset allocation remains steadfast in its character traits. Perhaps this is a good place for your passive investments.
Speedboat: This satellite and more aggressive watercraft is built for quick maneuvers, possibly fun and entertaining, and an opportunity to impress myself (or teach humility). This smaller allocation should demonstrate my most active portfolio management, style, and security selection skills. Rockin’ and Rollin’, these investments better take advantage of great ideas, dislocated markets, and short-term behavioral mistakes made by my fellow investors. These vehicles provide an opportunity to earn much greater returns than those generated by the more passive portion of the portfolio.
Tight Bathing Suit: I wholeheartedly pay attention to risk management. Famous investor, Warren Buffett is credited with the following quote, “You never know who’s swimming naked until the tide goes out.” A rising tide of asset prices like we have lived through since 2009 can make a lot of people and investments appear intelligent. Over my twenty-year career, many of my most important lessons occurred when I realized just how dumb I could be. You worked hard to actively build wealth so avoid getting caught showing your assets at the wrong time! Perhaps this is a good place to use unemotional computer-drive risk analysis to monitor and evaluate your strategies, risks, and security selection.
I welcome your thoughts in the comments section below.
ABOUT THE AUTHOR:
Michael loves to empower investors with his expertise in securities and economic analysis, goals-based wealth management solutions, and FinTech smart decision-support tools. He has directly managed over $5 billion in growth and retirement assets, and his proactive advice has influenced thousands of fiduciary advisors to better their practices and service to clients. He enjoys spending time with his wife and three boys, competing in USTA tennis, and mentoring others to succeed.
Email l Michael@empoweredportfolios.com
Twitter | @MichaelHakerem