|Rules for tying the (financial) knot
Wednesday, March 09, 2011
After a pretty poor decade on the investing front, with the
possible exception of Natural Resources and Precious Metals,
you have to wonder where we go from here. How do we take advantage
of the performance shift from West to East, developed world
to emerging world? How do we do it in way that doesn’t push
our portfolios too far up on the risk scale?
Take a look at the following comparative tables of the best-
and worst-performing fund categories as of January 31, 2011.
The five-year average annual compounded return is shown:
||5-Year Return %
|Precious Metals Equity
|Miscellaneous - Commodity
|Greater China Equity
|Miscellaneous - Geographic Equity
|Asia Pacific ex-Japan Equity
|Canadian Income Trust Equity
|Natural Resources Equity
|Emerging Markets Equity
|High Yield Fixed Income
||5-Yr. Return %
|Financial Services Equity
|Retail Venture Capital
|U.S. Small or Mid Cap Equity
|Health Care Equity
What’s notable here is that the top-tier categories have a heavy
concentration in emerging markets. Even the resources and precious
metals categories are highly influenced by red-hot growth in
emerging economies. The strong performance of the Alternative
Strategies category also demonstrates that although this is
not as heavily influenced by growth in emerging economies, it
also represents a non-traditional investment strategy that is
paying off for those in the space.
Categories that represent investment in developed economies
are few and far between in the top-tier list.
It will come as no surprise, then, that categories in the bottom
tier represent investments that focus predominantly on developed
Western economies. This still may shock some people, but it
clearly shows that the performance lead of developed economies
has given way to the stronger emerging markets. These emerging
economies have little debt as whole, younger populations, and
are growing at a rapid pace.
Core and explore option reviewed
So how does this translate into a “big picture” investment
I am in the camp that favours placing 80% to 85% of your assets
in traditional investments that form the core of your portfolio.
These might consist of Canadian, U.S., and International Equities
along with a good percentage of fixed income to mitigate some
stock market volatility risk.
This strategy also works to stop excessive principal erosion
that makes it difficult to get back to where you were in the
event of a market correction or bear market.
The remaining 15% to 20% should be used to “explore” areas
that might give your portfolio a return boost while diversifying
your portfolio to reduce overall risk.
Precious Metals, Alternative Strategies, and Real Estate are
three categories that have traditionally not been closely correlated
with general stock market movement. “Correlation” is simply
the term used to measure the degree to which different asset
classes move together.
Ideally, you want to structure your portfolio so not everything
is moving up or down at the same time. This works to stabilize
your portfolio by minimizing (not eliminating) large movements
down during a correction and getting you back to your pre-correction
state more quickly.
Emerging Markets, China, Natural Resources and Small Cap categories
are all potentially more volatile owing to exposure to less
developed markets and financial systems. But all can be used
to boost returns by giving you exposure to areas of potentially
strong future growth.
We can’t invest in the past. We must invest for the future,
because retirement planning can have a 40-year time horizon
(or more). Many analysts now believe that emerging markets may
not be any more volatile than developed markets, because their
economies have less debt, younger populations, and faster growth.
You can reduce your volatility further by investing in these
potentially more volatile areas by investing on a monthly basis
to “dollar cost average” your investments, taking advantage
of corrections to buy on weakness.
Some financial advisors also recommend selling a portion of
your “explore” position after several years of very good returns
(so you don’t unintentionally give back your gain) and moving
back to “core” positions.
Generic Mutual Fund Disclaimer
Commissions, trailing commissions, management fees and expenses
all may be associated with mutual fund investments. Please read the
simplified prospectus before investing. Mutual funds are not
guaranteed and are not covered by the Canada Deposit Insurance
Corporation or by any other government deposit insurer. There can be
no assurances that the fund will be able to maintain its net asset
value per security at a constant amount or that the full amount of
your investment in the fund will be returned to you. Fund values
change frequently and past performance may not be repeated.
Personal Opinions & Recommendations Disclaimer
The foregoing is for general information purposes only and is the
opinion of the writer. This information is not intended to provide
specific personalized advice including, without limitation,
investment, financial, legal, accounting or tax advice. However,
please call the author to discuss your particular circumstances.