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Getting Back on Track - NoLoad FundX
- 1. AAII - Phoenix March 2013 Jason Browne, CIO FundX Investment Group
- 2. Agenda • Background on FundX Investment Group • US Stock indexes are at all-time highs: our thoughts on Equity Investing? – The role of stocks in a portfolio – Our perspective on risk/reward – Current Fund and ETF leadership • What about Fixed Income? – Risk, opportunity and what we plan to do when rates rise • If you have missed the rally, what can you do now? • Reality check (needs/resources = limited choices) – The secret to long-term investment success
- 3. Established in 1969, FundX Investment Group (formerly DAL Investment Company) pioneered the use of noload mutual funds to professionally manage investment portfolios for clients. Our performance is rooted in a systematic investment discipline known as Upgrading. This strategy allows us to be invested in the best performing mutual funds available – whatever the current market conditions. We offer three services which provide access to the benefits of the Upgrading strategy. • Private Accounts • NoLoad FundX Newsletter • Mutual Funds
- 4. Core Equity Portfolios Risk Managed Portfolios Flexible Income Portfolios
- 5. Upgrading Selection Process Asset Allocation Equity Allocation •Risk •Time • Process drives portfolio •Stocks •Global •Resources •Bonds •Portfolio is built fund- •Diversified •Preferences •Cash by-fund based on •Flexible •Commodities Upgrading •Automatic •Alternatives Profile and Objectives Equity Portfolio 5
- 6. 86 Years Stocks, Bonds, Cash & Inflation Stocks $2,936 Bonds $95 Cash $21 Inflation $13
- 7. Historical Expectations Stocks (10% total return) Bonds (6% yield) Cash (3% yield) Alternatives (8% total return)
- 8. S&P 500 - 16 Years to Mar 2013
- 9. 86 Years Stocks, Bonds, Cash & Inflation Stocks $2,936 Bonds $95 Cash $21 Inflation $13
- 10. Secular Bear Market 1966-1982
- 11. Secular Bull Market 1982-2000
- 20. Historical Expectations Stocks (10% total return) Bonds (6% yield) Cash (3% yield) Alternatives (8% total return)
- 21. More Realistic Expectations Stocks (8-10% total return) Bonds (2-3% yield) Cash (0-1% yield) Alternatives (5-10% total return)
- 22. As We Invest, it Helps to Acknowledge that… Most people: 1. Will NEED to spend some of their own money to supplement other sources of income. 2. Have limited RESOURCES. 3. Can’t earn what they NEED without taking some RISK that will feel uncomfortable at times. Because: 1. Low risk investments often don’t return enough 2. When they do return enough, higher risk assets are generally doing so much better that they are hard to resist 3. Higher returning investment are volatile 4. Most investors lose confidence in their investment strategy when their portfolio declines in value
- 23. Required Rate of Return (ROR) NEED / RESOURCES = ROR If you earn less than ROR, you will eventually run out of RESOURCES. Choices: • Try to earn ROR or greater return • Decide in advance how long your RESOURCES must last • Reduce your NEED and/or increase your RESOURCES
- 25. Different Isn’t Always Better
- 27. NoLoad FundX Long Term Performance
- 28. Long-term outperformance always includes underperformance 25% Relative performance of Class 3 Upgrading for calendar 20% years 1980 to 2010, from best to worst. 15% 10% 5% 0% -5% -10%
- 32. Calendar Year Returns (Flexible Income managed portfolio for trailing 10 years) 40.00% 20.00% 15.78% 8.56% 9.06% 7.54% 7.23% 4.93% 4.99% 1.99% 1.10% 0.00% -0.23% -20.00% -40.00% 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 32
- 33. More Realistic Expectations Stocks (8-12% total return) Bonds (2-4% yield) Cash (0-1% yield) Alternatives (6-10% total return)
- 35. The Secret to Long-Term Investment Success 1. Use Realistic Assumptions – Return Expectations – Risk Tolerance – Investment Strategy 2. Set an Asset Allocation to Fund Your Goals – Beating Benchmarks is for Pros – Play the Hand You are Dealt 3. Be Disciplined and Act to Your Advantage – Rebalance – Monitor Your Results Vs. Your Assumptions – Follow a Plan
- 36. WWW.FUNDX.COM 800-763-8639 Noload FundX Newsletter: $99 for 1 year Quarterly Upgrader newsletter: Free FundX Blog: Free Mutual funds: www.upgraderfunds.com Private accounts: www.fundxinvestmentgroup.com
Editor's Notes
- Today, I will spend a few minutes introducing you to FundX Investment Group. My goal with this presentation is to share my firm’s perspective on the choices investors currently have as they position their portfolios to make money and meet their investment goals with the US stock market indexes at or near 5-year (in many cases, all-time) highs, bond yields at or near historic lows, and cash pays zero (and therefore intentionally yielding less than the target or historical rate of inflation).I will also share the mutual funds and ETFs that we currently own and some ideas for how we are helping our clients set realistic expectations as we attempt to help them fund their long-term investment goals and meet their saving and spending needs.
- FundX investment Group was founded in 1969 as DAL Investment Company. We began publishing the NoLoadFundX newsletter in 1976 and we have served as the advisor to the FundX Upgrader funds since 2001. We officially changed our name to FundX Investment Group in 2012 to make it easier for our clients and customers to see that we are really one company offering one investment strategy, applied to a variety of asset classes and packaged to meet the needs of different investor types.We manage private accounts with a $500k minimum investment, mutual funds with a $1000 minimum, and our newsletter is available to AAII members for $99 per year.Our tagline: Because Markets Change, drives our investment strategy, which we call Upgrading. We have observed that stock market leadership evolves. Sometimes, foreign funds lead, other times, the US market is best. Leadership also rotates between Value and Growth strategies and Large Vs. Small company stocks. There are also a broad spectrum of bonds funds to choose from, and high-yield bonds, for example, don’t always do well at the same time as US Treasuries. Market leadership changes are obvious in hindsight but very difficult to forecast. Our Upgrading strategy is designed to systematically invest in leading mutual funds and ETFs and prompts us to sell those that fail to keep pace.
- We manage stock-based portfolio, risk managed (or “hedged”) portfolios and fixed income portfolios. We use these as the building blocks for a diversified investment portfolio. Some of our mutual fund shareholders use these to compliment less active portfolios (consisting of passive index funds, or individual stocks and bonds).
- The Upgrading Strategy does not replace the need to consider one’s risk tolerance, time horizon, resources and preferences and determine an asset allocation designed to manage volatility, generate growth and meet income needs. What is unique is that we do not believe in setting strategic allocations to areas where market leadership changes, like foreign or domestic stock funds and ETFs or high-yield versus investment grade bond funds. Instead, our strategy is designed to identify current leaders and to systematically sell funds that fall out of favor and reinvest in current leaders. This strategy, called Upgrading, has one goal: to force us to align our portfolios with changing market leadership.Our equity portfolios stay fully invested in stock funds and ETFs, but rotate between foreign and domestic funds, value and growth funds, large and small cap funds, and other more focused funds and ETFs based on Upgrading.Our flexible income portfolios are fully invested in fixed income funds and ETFs, but rotate between high yield and investment grade bond funds, foreign and domestic bond funds, short and intermediate duration bond funds, and even some funds that we consider as alternatives to traditional bond funds.Our risk managed strategies use Upgrading to select stock and/or bond funds and ETFs, and we use a combination of objective models and technical indicators to adjust the level of acceptable volatility and direct market exposure. We use a variety of options strategies to align these portfolios with the desired level of market exposure.
- As we consider asset allocation decisions, most investors start with the long-term historical performance of stocks, bonds, and cash and how these relate to inflation over time. This chart shows that since 1925, stocks have handily outperformed bonds, which have outpaced cash, which has generally kept pace with and slightly outrun inflation.
- Based on the long-term records, investors then build an asset allocation expecting their portfolio to achieve similar performance to the long-term average of each asset class.
- The problem is that returns are rarely average, even for periods of a decade or longer. This chart shows the popular S&P500 index for the trailing 16 years. We can see that this index reached a peak value in 2000, surrendered four years worth of gains through 2002, came back to about the same peak level in 2007, again surrendered all of the 2003-2007 gains in a dramatic plunge through early 2009, and is now back at challenging its all-time high.An investor who retired late 1999 and positioned his portfolio based on the historical performance of stocks, bonds, cash and inflation has faced dismal actual performance as stocks and cash offered very low returns and only bonds managed to beat inflation. Of course, this is only true for an investor looking from the peak forward. If, instead, an investor purchased stocks at the end of 1997 – or following either of the dramatic declines (2001/2 or 2008/9) they realized good returns, possibly even better than bonds and generally far exceeding cash and inflation.Based on this experience, investors begin to modify their expectations and their investment strategy. They start to believe that the only way to make money from stocks is if you sell when they rise and buy after then fall rather dramatically. In other words, they stop thinking that stocks offer a compelling return if held as a long-term investment.
- Looking back at our long-term chart, we see that as painful as the last 13 years have been, this kind of sideways market action isn’t unique to this period. Investors faced a similar environment from the mid 1960s through the 1970s and also from 1929 through the early 1940s. These sideways periods don’t always seem to happen for the same reason. In the 1960s, for example, the US economy faced stagnant growth and very high inflation. In the great depression, we faced severe joblessness, deflation and a global financial crisis. These periods include bull markets and bear markets, but the bull markets fail to bring substantial new highs. We call these periods secular bear markets.In between these secular bear markets are decades where stock investors have earned handsome gains. These periods also include bull markets and bear markets, but each leads to substantially higher highs. These are called secular bull markets.
- This Chart shows the secular bear market from 1966 to 1982. Like the current trailing 13 years, the broad stock market dropped dramatically a number of times, recovering just as dramatically, only to fall again. Market timing systems become popular in secular bear markets as investors abandon stocks as long-term investments, believing that the only way to make money is to sell near historic highs and buy back only after dramatic declines.
- Of course, the market changed rather dramatically in 1982. The end of a secular bear market is very obvious in hindsight, but many of the successful market timers from the 1960s and 1970s missed this 18-year secular bull market altogether.During this period, the market continued to suffer regular pullbacks. Bear markets, however, were less frequent and also less dramatic, recoveries were more pronounced, and bull markets persistently brought the market to fresh highs.By the late 1990s, investors had a totally different attitude about stocks than in the late 1970s. Stocks were long-term investments that were accumulated over time. Dips were buying opportunities and market timing was a fools game. The key thing to recognize is that markets change and it is very difficult to forecast these changes. What works in one environment often doesn’t work in another. Understanding that we probably won’t know for sure when the market changes, but that eventually it will, we want to avoid the temptation to anchor our behavior based on our most recent experience.Maybe the market is about to fall again – but we could also be on the verge of a fresh secular Bull market. At this point – we don’t know!
- This chart shows the S&P500 from 1966 to March 2013 on top – and the bottom plots the median P/E ratio for the stocks in the index. This comes from Ned Davis Research. I have similar charts if anyone is interested, using trailing average P/E, operating earnings, smoother earnings (the Shiller P/E). I like using the median P/E because it filters out the extremes and also because it actually has a pretty good track record as a measure of relative risk (I have had less success using the other measures).The pattern I want to point out (which is consistent regardless of which P/E measure one uses) is that during secular bear markets, P/E multiples decline and during secular bull markets, the P/E rises. The other interesting thing is that through this period, which included two secular bear markets and one secular bull market, the average median P/E is pretty close to the current level. Stocks are nowhere near as cheap as they were at the lows in the 1970s – or 2009, but they are also nowhere near as expensive as they were at the market peak in 2000 or 2007 even though the index price was similar (and some indexes are already at fresh highs).Because earnings continue to grow (maybe because of inflation, or elevated profit margins) stocks get cheaper over time even if they don’t decline in price. The implication is that if we do get another bear market, it is unlikely to be as severe as the last few we faced. It is also entirely possible that stocks could continue to climb even if earnings slow – and especially if they accelerate.
- Relative to bonds, stocks are very attractive. This chart shows the relative performance of stocks versus bonds on top, and the relative value of the stock earnings yield versus comparable corporate bond yields on the bottom. As stocks have been in the current secular bear market, bonds have performed very well – much better than stocks. It is rare that this relationship falls below 1 (the earnings yield for stocks is less than the income offered by comparable corporate bonds). It is presently at 0.5, an all-time historic low.The implication is that stocks should outperform bonds rather dramatically . The challenge is determining if that will be because stocks do well or bonds do poorly.
- Part of the challenge is that bonds are broadly over-valued relative to a variety of measures with historical significance. This chart compares the 10-year US treasury yield to a fair value derived from CPI inflation, nominal GDP growth, t-bill yields, dividend and earnings yields, and municipal and foreign bond yields. Based on these measures, the 10-year treasury yield should be about 2.6%. Of interest, this snapshot was taken 2/28/13 when the 10y yield was 1.98%. As of today (3/14/13), the yield spiked much closer to fair value at 2.51% before easing back to 2.25%. As you will see on an upcoming slide, that relatively modest increase in rates , if sustained, would result in a loss of more than a full year of income for an investor holding 10y US treasury bonds.
- There are many types of bonds and they tend to do well at different times. High yield bonds, for example, did very well in 2012 with a gain of more than 15%. US Treasuries gained only 2% in 2012. In 2008, high yields lost 26% while US Treasuries gained nearly 14%. Being diversified and having the flexibility to take advantage of different types of bonds has paid off over time. This can be very difficult for investors who prefer to buy individual bonds, but is pretty easy for investors using bond funds and ETFs.
- One thing to be aware of is that bond yields have come down dramatically for nearly all categories of bonds over the past several years. Other than the safest bonds, yields spiked dramatically during the credit crisis in 2008. But after years of monetary intervention including multiple rounds of quantitative easing, yields on all forms of bonds are at historic lows, and the safest bonds yield less than the Fed’s target rate of inflation.Some bond types, like high yield bonds, offer a better return than higher quality but much lower yielding bonds as long as rates stay low and defaults also remain low.One challenge is that because rates are this low , it may be difficult for any bond category to fully sidestep the negative impact of any potentially substantial increase in rates.
- This chart from Guggenheim funds shows the long term rage of yields for the Barclays Aggregate bond index and a series of other popular categories of investment grade bonds.In each case, you can see that yields are very near the long-term all time lows and strikingly below the long-term average. As an example, The average yield for Agency MBS is 7.9%. These bonds currently yield 2.5%. If any of these yields simply touch their long-term average at any point over the next decade, investors holding them today would face negative total returns – and in some case, pretty substantial losses.
- This chart shows the yield on the 10-year US treasury all the way back to 1800. We certainly have to respect the fact that the yield is currently at an all time low. That said, most people think about the huge run up in yields from the 1950s to 1980 and the massive drop over the past three decades and assume that the next move, once it starts, will be equally dramatic. Looking back, we can see that sideways is also a direction, and one that can be sustained for decades at a time. I would be stunned if rates didn’t rise 1-2% at some point over the next decade – and I would expect that if treasury yields climb by 2%, yields on corporate bonds and other credits would also increase because these would need to compete against a higher yielding treasury.I simply would point out that we don’t know how this will play out. There is no evidence that the experience of the last 60 years is any more normal than the relatively benign period that preceded it. The one thing we do know is that there is a limit to how much lower yields can go from here, and that is likely to mean that bond returns over the next decade will probably be based on their current yield at best, and most likely somewhat lower.
- This chart shows that even a modest 20bp increase in yield is sufficient to generate a negative total return for investors in current 10 year US treasuries. An increase of 1-2% would result in losses as great as 10-15% depending on when the increase happened. To put that in perspective, the 10 year treasury was yielding more than 4% in 2007 and 3% for most of 2009. Money market funds, which yield near zero today, paid 3-4% only a few years ago. The current 10-year US treasury yield is only 2.25%.
- This brings me back to our assumptions as we think about an asset allocation for the next decade. Does it make sense to assume returns that are consistent with the long-term average of stocks, bonds, cash and alternatives in the context of anemic yields and the stock market near its all time high?
- Based on the fact that stock valuations are in line with the long-term historical average, earnings continue to grow, and there is very limited competition from other asset classes like bonds and cash, we believe it is reasonable to assume that stocks can return at or near their long-term average over the next decade. That also implies that stock investors will need to accept volatility that has also been consistent with stocks over the long-term including an average of three 5% pullbacks per year, one 10% correction per year and one bear market decline of 15-30% every 3-5 years. We think that bond investors will have a hard time doing better than their current coupon yield over the next decade. For investors in a bond index, that implies returns as low as 1-2%. More diversified bond portfolios yield closer to 3%. There are bonds that yield more than 3%, but those can be as volatile as stocks over time and therefore most bond Investors will probably want to limit their exposure to higher yielding bonds. Cash yields basically zero and low cash yields are expected to continue for at least the next 2-3 years. This implies that investors either need to accept lower returns or consider taking greater risk in their portfolios. In fact, part of the stated purpose of current monetary policy is to encourage investors to purchase riskier assets.
- Please read the text on the slide carefully. This is true in most environments, and it is especially true today. Investors must be practical. There are no sure things. We don’t know exactly how the future will unfold. We do, however know what resources we have available and we can make reasonable assumptions about the limitations of lower risk investments based on current interest rates.
- I believe that it is helpful to consider what return you need to earn based on your present and future income needs and your resources. People like to focus on their risk tolerance and time horizon, but if you don’t align your portfolio with investments that at least have the potential to earn your personal required rate of return, your risk preferences no longer matter – you will be guaranteeing yourself that you will ultimately deplete your resources.By thinking through this using realistic return assumptions based on current conditions (favorable or unfavorable as they may be), you are left with three choices as listed on this slide.If you try to earn your required rate of return, you may fail, but you can put the odds in your favor by using realistic assumptions and a proven investment strategy.Deciding in advance how long you need your resources to last is a tricky business. My suggestion is that for both of the first two choices, one should include a “plan B” if things turn out differently than expected.Plan B may include seeking to reduce expenses, save for longer, take a part-time job, or sell some assets to help increase your resources. If you want to bounce ideas off someone who helps clients think creatively about these choices, call us any time.
- The other thing to consider is that if you can even marginally improve on the performance of your investments (if you can do better than the benchmark indexes upon which our assumptions are based over time) then you may not need to take as much risk in your asset allocation.The questions this raises are: If you try to beat the market, what is the probability that you will succeed? Are there things you can do to tilt the odds in your favor?Do you have enough conviction in your strategy to stay disciplined during inevitable periods of underperformance?This chart is from a study we did that was published in the NY Times a little over a year ago. We are happy to make the full study available if you are interested.We screened for all diversified mutual funds that existed in 1989 and still exist today. This chart shows 306 funds, listed from best performing on the left to worst performing on the right. Of the 306, the Vanguard 500 index fund (an investable proxy for the S&P500 index) returned very near the middle of the pack at rank 155. The best fund earned 15% per year. The Vanguard 500 Index fund nearly 8% per year and the worst fund less than 2% per year.About half of the fund beat the index over the full 22 years, some dramatically. Of course, half also underperformed.
- This slide from the same study shows the same 306 funds, still arranged with the best performers on the left and worst on the right based on total return for the full 22 years.This time, the funds are sorted based on the number of years in which they failed to beat the Vanguard 500 index fund on a calendar year basis. What you can see is that even the best performing funds – those that substantially outpaced the index over the full period, lagged the index one third to nearly half the time when measured on a calendar year basis.The only fund that never under-performed the index was the index itself.This shows that if your primary goal is to match the index every year, your only choice is a low cost index fund. At FundX Investment Group, our goal is to help investors fund their objectives using a strategy that offers the opportunity to outperform benchmark indexes over their long-term investment horizon.
- We don’t believe that we can forecast future market leadership so we adopted a process that we have used since 1969 that allows us to identify and monitor current leaders. This slide shows the back page of our newsletter. Everyone who attended the talk has a copy and a free trial is available at www.fundx.com or by calling 800-763-8639.We classify equity funds into four categories based on diversification and historical downside record. Each risk class includes a diverse mix of investment strategies including foreign and domestic funds and funds covering a variety of market capitalizations.We then rank them every month against their peers based on trailing 1mo, 3mo, 6mo and 12mo performance, equally weighted. We buy funds in the top 10% and hold while they are in the top 30%. Once a fund is ranked below the top 30%, it is sold and replaced by a fund in the top 10%. Over time, this strategy forces us to unemotionally align with current leaders and sell funds that fall out of favor – even if we like the manager or believe in the long-term viability of the strategy. When it comes back up our ranks, we can always buy back in.
- Our newsletter has been tracked by the Hulbert Financial Digest since 1980 and the results shown in this chart are as calculated by Hulbert.You can see from this chart that $10,000 invested in a diversified fund portfolio and upgraded consistently over the full 32 years grew to over $1 million – dramatically more than the $256 thousand one would have gained in the S&P500 index.On an annualized basis, the gain was 15% per year versus 11% per year for the index, but this modest 4% per year difference is powerful over many years.
- It’s important to recognize that even though we are constantly aligning with current leading funds, there is always something doing better than we are – those are the funds we are buying.Like all strategies that aim to beat the market over time, the other critical thing to recognize is that we don’t win every year. The key is that when we underperform, it is by a smaller margin (on average) than when we out-perform. Also, we have historically outperformed more than half the time.This chart plots the calendar year out-performance or under-performance of our Hulbert portfolio Vs. the S&P500 index from 1980 through 2010. These are sorted with the greatest out-performance on the left and the worst under-performance on the right.One thing that we believe is important is that our portfolios are diversified. We didn’t outpace the market by holding a concentrated and volatile portfolio of stocks. We did it my investing in a portfolio of diversified mutual funds and diligently realigning over time as leadership changed.
- This chart shows one example of changing market leadership. Over the last decade, foreign funds (represented by EAFE) beat US funds (represented by the S&P500) for the first five years and lagged for most of the last five years. The bottom portion of the chart shows the percentage of our growth portfolio that was invested in foreign funds based on Upgrading over this period. We don’t expect our portfolio to beat EAFE when EAFE is leading, or the S&P500 when it is leading. That said, what allows us to outpace both over time is that we participate in the leadership of each and that combined participation has produced very compelling long-term performance.If market leadership never changed, there would be no benefit to Upgrading. You would simply run with the leader and never have to trade at all. We Upgrade Because Markets Change.
- In the presentation, I mentioned that this is the least valuable slide I shared. One reason is that this is directly from the latest newsletter. If anyone needs a copy, we are happy to make it available. The other reason is that this is based on this month’s ranks and next month things could change. Over the course of the next year, we expect them to change.I did want to highlight a few things. For those interested, this slide shows leading sector funds in Class 1, leading aggressive funds in Class 2 and leading core equity funds in Class 3. Current leaders include a mix of value funds of various capitalizations and some foreign funds. Under the current buys (taken from the back page of the current newsletter), are what we call star boxes. These are portfolios where we tell subscribers exactly what to buy and sell if they want to trade a five fund portfolio in a given risk class. The buys are from the current buy listings. Funds are sold when they fall out of the top 30% as long as they have been held at least 90-days.
- Besides the star boxes, we list two recommended portfolios in the newsletter. One is a growth portfolio called the Monthly Upgrader Portfolio. That is the portfolio tracked by the Hulbert Financial Digest. The portfolio shown here is our flexible income portfolio. We upgrade fixed income funds like we do stock funds – with two goals. One is to do better than the total bond index over time. The other is to limit drawdowns from any peak to no more than 6% and minimize losses in negative years.Using bond funds, we can include a broad range of strategies including different maturities, different levels of credit risk, foreign and emerging market bonds, strategic funds that have a flexible mandate, and even some balanced funds that have historically maintained low volatility and are therefore a reasonable alternative to traditional fixed income.This portfolio is modeled after how we manage fixed income portfolios for private clients and in our mutual fund.
- The calendar year returns shown are based on our managed flexible income portfolio after all fees and expenses. This portfolio has outpaced it’s benchmark – but again, not in every calendar year. Our worst year, 2008, we lost 0.23% while the total bond index gained. 2011 was another year when we under-performed . We have done very will in periods when the bond index didn’t do well – mainly because we have the flexibility to incorporate a variety of strategies and to adapt to changing markets.
- One other point I like to make is that although we use Upgrading for our strategy, there are lots of valid strategies out there. If you have lots of conviction in one strategy, and it has a proven track record, that’s the one you should use. Some people like to have part of their portfolio in index funds and compliment that with part in an active strategy like Upgrading. There is no one size fits all answer – the key is to use realistic assumptions and follow a system that you understand and believe in. Most people get into trouble when they flip-flop between strategies because they lack discipline or conviction – or because they take on too much risk when things are going well and too little risk when things get scary.In our private client accounts, our current assumptions for the next decade look like those listed here. Using these, we allocate between our Growth portfolio for stocks, Flexible income for bonds and our Hedged strategy for alternatives to create a portfolio designed to help investors meet their individual objectives. Investors trying to accumulate wealth have more growth. Those drawing an income from their portfolio have less in growth and more in bonds and alternatives. Due to current low interest rates, we are moderately reducing exposure to bonds and increasing exposure to our hedged strategy for clients who are comfortable with that. Our goal is to increase their return potential without substantially increasing volatility. We haven’t abandoned bonds, however, partly because they continue to do well.
- One reminder about stocks is that even in the best years, stocks tend to be volatile. It’s important not to get scared out of stocks just because of a correction.This slide shows that in 25 of the 32 years from 1980 through 2011, stocks produced positive returns despite intra-year drops averaging 14.5%. After the terrible experiences in 2000 and 2007, many people may be tempted to run for cover at the first sign of trouble. My suggestion is to move incrementally if at all. More important – have a plan in advance so you avoid acting emotionally.Your plan over the next 3-5 years should include the expectation that stocks will experience several 5% corrections, at least a few 10% corrections and probably at least one bear market decline of 15-30%. When will the market pull back and from what level? That is something none of us know for sure.Think about this when you establish your portfolio. Try to position yourself to take advantage of the current gains for as long as they last – but also to be prepared for periodic declines. Ideally, have a plan that allows you to increase your allocation to stocks in declines and to add to bonds when interest rates rise. The easiest such plan is to monitor an asset allocation and periodically rebalance.
- I believe that the most important thing to do is be realistic. Don’t try to forecast the future or assume that you know what will happen – things have a way of turning out differently than any of us anticipate.Try to be optimistic. This doesn’t imply taking on excessive risk. I would only say that over time, optimistic investors tend to do better than those who are always waiting for bad things to happen because they don’t get frozen out of the market.Make mistakes – we all do. Just be careful to limit the damage. Ideally, build safeguards into your strategy that automatically limit the damage when things don’t go your way.Don’t worry about benchmarks. Be aware of what the market is doing and be sure you are participating. That said, be more aware of what you are doing and that your actions are consistent with the highest probability of reaching your goals. In the end, you don’t want to be dependent on a specific market outcome – and you also don’t want to lose conviction in your strategy based on near-term performance.Realize that things are what they are. You may wish interest rates were higher, but they are not. Position yourself based on what you can observe today – and adjust as things change (not based on what you think should happen or may happen next).Call us if there is ever anything we can do to help.