In my experience, most people see a portfolio review as an assessment of
how their various securities are doing. Which ones are meeting
expectations, and which should be dumped?
That’s important, but it shouldn’t be the number-one priority. Instead, the
very first thing you look at should be your asset allocation – how much of
your money is invested in stocks, bonds, and cash.
The actual securities you own are secondary when it comes to determining
how well your portfolio is likely to perform over time. If your asset mix
is wrong, your portfolio will never live up to its potential.
Over the years, I’ve read articles that contend that up to 90% of a
portfolio’s performance is determined by having the correct asset
allocation. I find this to be a bit of a stretch – surely more than 10% of
performance relates to choosing the right stocks or bonds.
But directionally, this thesis is on target. How you allocate your
resources will have more of an impact on your long-term results than
whatever it is you actually buy.
Legendary investor and author Jim Rogers, who co-founded the Quantum Fund
with George Soros, put it this way: “The trick in investing is not to lose
money. That’s the most important thing. The losses will kill you. They ruin
your compounding rate, and compounding is the magic of investing.”
Warren Buffett says it more simply: “Rule No. 1: Never lose money. Rule No.
2: Never forget rule No. 1.”
So, what does this mean in real world terms? Basically, it comes down to
adjusting your portfolio in volatile times (like now) so as to limit your
downside risk. That means holding a larger percentage of your assets in
bonds and cash.
Most people, even low-risk investors, are probably overweighted in stocks
without even realizing it. That’s because, thanks to the 10-year bull
market, stock prices have risen dramatically, even for the most
conservative companies. For example, in January 2009, shares of
Royal Bank of Canada (TSX: RY)
were trading in the $30 range. Since then they have more than tripled in
value. Multiply this by all the equities in your portfolio, and your
exposure to the stock market today is probably much higher than you’d like
or are comfortable with.
Outcome Wealth Management has developed an approach to this problem that
they say is unique in Canada. The company uses a dozen broadly-based
exchange-traded funds (ETFs) to create a portfolio that Noah Solomon,
President and Chief Investment Officer, says is based on what is actually
happening in the markets, not on predictions.
His company ignores macro-economic trends and the performance of individual
stocks. “The mood of investors is the only thing that really moves
markets,” he contends.
Every month, the portfolio is re-evaluated using a sophisticated screening
system that looks at total returns and month-end price levels over six,
nine, and 12 months. If all three indicators are positive, the ETF is
retained in the fund with a 10% weighting. If even one indicator is
negative, it is dropped. For example, last November, the Outcome fund moved
out of stocks entirely. As a result, investors escaped unscathed when
equities suffered their worst December since the Great Depression.
Most people won’t be able to make use of Outlook’s services because of its
$500,000 minimum investment requirement. Nor does it make sense for
individuals to overhaul their portfolios each month – the trading fees
would eat up any profits.
But we can all take a lesson from the company’s approach: scale back equity
exposure when markets are volatile and uncertain to reduce the risk of
heavy losses. Be aggressive when stocks are cheap and close to a bottom.
Don’t expect to get the timing exactly right. No one does.
“Bull markets tend to last a long time,” says Mr. Solomon. “We don’t mind
if we miss the first few months. Bear markets come on much more quickly. If
you wait, you lose money.”
Gordon Pape is one of Canada’s best-known personal finance commentators
and investment experts. He is the publisher of
The Internet Wealth Builder and The Income Investor newsletters, which are available through the Building Wealth website. This column originally appeared in The Toronto
For more information on subscriptions to Gordon Pape’s newsletters,
check the Building Wealth website.
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Notes and Disclaimer
© 2019 by The Fund Library. All rights reserved.
The foregoing is for general information purposes only and is the opinion
of the writer. Securities mentioned carry risk of loss, and no guarantee of
performance is made or implied. This information is not intended to provide
specific personalized advice including, without limitation, investment,
financial, legal, accounting, or tax advice. Always seek advice from your
own financial advisor before making investment decisions.
BUILDING WEALTH WITH GORDON PAPE