Category Archives for "Investment Planning"

Aug 25

Is Your Portfolio Diversified?

By Chris Chen CFP | Financial Planning , Investment Planning

Is Your Portfolio Really Diversified?

Diversification is simple to understand. In the context of managing your portfolio, diversification is (simply) about investing in diverse securities so as to lower the risk of the portfolio. Ever since markowitzNobel Prize winner Harry Markowitz wrote his seminal paper “Portfolio Selection” in 1952, finance professionals (and increasingly lay people) have understood that the true risk of an asset is its contribution to the risk of a portfolio.

In a recent survey run by Insight Financial Strategists, according to 41% of respondents a single mutual fund is sufficient diversification . After all, even the most concentrated mutual fund typically has several dozen stocks. However, many mutual funds diversify within a single asset class in a single country, such as, large-company stocks in the U.S.

Others will concentrate their portfolio on a few securities, sometimes with very unfortunate results. For instance, between September 1, 2015, until November 17, 2015, the Sequoia fund (symbol SEQUX) lost 26.3% of its value largely due to its high concentration in a single stock, Valeant (VRX). Looking at the price evolution of VRX below (source: Google), and knowing that SEQUX had more than 30% invested in VRX, it is not surprising that the mutual fund tumbled.

Stock price of VRX from 9/1/2015 to 12/1/2015

Price of VRX from 9/1/2015 12/31/2015

In practice, diversification is hard to implement. There are many levels of diversification. Some of them are:

  • by individual securities
  • by asset manager;
  • by asset class; and
  • by geography.

Ideally, an investor will want to diversify so that the various investments are not correlated with one another, have low correlation or even have negative correlation. For instance, according to data from portfolio analytics firm Kwanti, Goldman Sachs (GS) and JP Morgan (JPM) have an 89% correlation based on monthly returns. In other words, buying GS and JPM in the same portfolio only provides a low diversification value.

diversification is about investing in diverse securities so as to lower the risk of the portfolio

In another example, based on monthly returns, JPM and Walmart have a negative correlation of -0.14%, according to data from Kwanti . I don’t know that I would necessarily want to buy either JPM or WMT. However, this pair provides good diversification from one another.

Most of us end up investing in mutual funds and exchange-traded funds, not in individual securities. The same principle applies there. Having a single large cap mutual fund that tracks Standard & Poor’s 500-stock index may not be sufficient diversification.

Sure, the S&P 500 ETF provides more than one security and is, therefore, diversified. But in general, most of the securities within a single asset class will be highly correlated with one another (such as with JPM and GS). With that, you would be protecting yourself against the risk inherent in any given company in the portfolio, but not against risks inherent to the asset class or other factors.

Ideally, you would want to be diversified across asset classes, across regions of the world and across asset managers. The following jelly bean chart from Schwab demonstrates the benefits of a wide diversification program: the ranking of the assets by performance changes seemingly randomly from year to year. A fully diversified portfolio (the orange boxes in the chart) is intended to avoid the peaks and valleys of individuals asset classes while providing a more middle-of-the-road return experience.

Jelly Bean chart

Is your portfolio diversified? A detailed analysis from a fee-only Certified Financial Planner can give you the full scoop on your portfolio and provide suggestions to mitigate the risks that you are exposed to. Like any other sound advice, apply it now, not later.

Check out some of our other blog posts on investing:

Market Correction? Hold On To Your Socks!   

3 Mistakes of DIY Investors 

5 Symptoms of Fake Portfolio Diversification   

4 Counter-Intuitive Steps to Make Your 401(k) Rock   

Sustainable Investing: Doing Good While Doing Well   

 

A previous version of this post was published in Kiplinger.

Jan 04

PORTFOLIO RISK MANAGEMENT or Can you sleep at night?

By Jim Wood | Financial Planning , Investment Planning , Retirement Planning

Can You Sleep At Night?

Shy moon

When choosing an investment or an investment advisor we pay great attention to investment results. We all want the highest possible return on our investments . Most of us understand that the more risk we take the more gain we may make, but also the more we may lose. It is a wonderful thought to consider how much we might make, but it is very prudent and wise to consider how much we might lose if things go bad. What can YOU afford to lose? Does the risk in YOUR portfolio match your needs?

The average gain of the S&P 500 from the start of 2010 to the end of 2014 was 15.45% . Quite a nice average gain and one that most professionals believe cannot be expected to continue in the long term.

In the bear market of the recent Great Recession, the S&P 500 lost over 54.9% of its value from October 9, 2007 to March 9, 2009 . If you had stayed invested in the S&P500 throughout the same period, you would have needed an estimated 122% return for your investment to return to its pre-recession level.

If instead in the same period you had been invested 50% in the S&P 500 and 50% in the Barclays US Aggregate Bond Index, you would have lost approximately 23.84%. You would have then needed a return of only 31.35% for your investment to return to its pre-recession level.

Obviously, this example is hypothetical. There are many other factors that weigh into portfolio design. Although real life portfolios will often contain many more components, this simple example illustrates the benefits of diversification, and the importance of managing risk in a portfolio.

It is up to you and your financial planner to judge the risk that you can afford, and up to your financial planner to help you implement a portfolio that reflects that risk.

Jim Wood Graph

Percentage Gains Needed to Offset Losses

The bar chart to the left will allow you to estimate the amount of gain required to offset any loss that you might have experienced.

How did 2015 do for you? At the end of November 2015 the S&P 500 was up 3.01% for the year . Many investors with all stock , and therefore, high risk portfolios, are still down for the year, and perhaps still not sleeping well.

What to do? After a financial planner has assessed your risk capacity, he/she will be able to recommend a fully diversified portfolio that includes all relevant asset classes to match your financial objectives.

Note: The above hypothetical example is based on historical performance of the S&P 500 and Barclays US Aggregate Bond Index using Morningstar data. You cannot invest in indices. Trading and management fees are not computed in the example. This is not investment advice, which can only be given individually based on your risk tolerance and circumstances.

 

A previous version of this post appeared in the Colonial Times

Nov 23

Four Year End Financial Planning Tools

By Chris Chen CFP | Financial Planning , Investment Planning , Retirement Planning , Tax Planning

Four Year End Financial Planning Tools


Couple_sitting_at_a_kitchen_table (Rhoda Baer)As we are coming to the end of a lackluster year in the financial markets, it is time again to focus on year end financial planning before time runs out in a few weeks .

Much of year end financial planning seems to be tax related . Any tax move, however tempting, should be made with your overall long term financial and investment planning context in mind. It is important not to let the tax tail wag the financial planning dog .

Here are four key areas to focus on that will help you make the best of the rest of your year end financial planning.

you should never forget to ask why you bought that security in the first place

1) Realize your Tax Losses

At the time of this writing the Dow Jones is down 0.16% for the year and the S&P500 has been up just 1.35% for the year. There are a number of stocks and mutual funds that are down this year, some substantially, and could provide tax losses. Now may be a good time to plan tax loss harvesting. The IRS limits individual deductions due to tax losses to $3,000 . However, realized losses (i.e., stock that you sell at a loss) can be offset against realized gains (i.e. stocks that you sell at a profit), thus providing you with a great tool to rebalance your portfolio with minimal tax impact.

2) Reassess your Investment Planning

While it is important to take advantage of tax opportunities, you should never forget to ask why you bought that security in the first place . Thus tax loss harvesting opportunities can provide a great opportunity to reassess your portfolio strategy. It may have been a few years since you have set your investment strategy. Perhaps you did so when the market looked better than it does now.

As we know, it is very difficult to predict the market, especially in the short term . The last eleven months should have reminded us that bear markets happen. On average the market has been flat (so far) in 2015. Are you ready, and equally important, is your portfolio ready for a potential significant downturn? This is a good opportunity to review your portfolio’s asset allocation, and determine whether it makes sense for your situation.

3) Revisit your Retirement Planning

As you probably know retirement planning is also a little about taxes . In 2015, you may contribute  a maximum of $18,000 to a 401(k), TSP, 403(b), or 457 retirement plan . In addition, if you’re age 50 or over, you may contribute an additional $6,000 for the year. Have you contributed less than the maximum to your retirement plan? You have until December 31 to maximize your contributions to your plan , receive the benefit of reducing your 2015 taxable income, and improve your retirement planning.

The contribution limits are the same if you happen to contribute to a Roth 401(k) instead. While your contributions to the Roth 401(k) are made with after-tax income, distributions in retirement are tax-free. Consult with your Certified Financial Planner professional to determine whether a Roth plan or a traditional would work best for you.

4) Plan your charitable donations

Charitable donations can also help reduce your taxable income, as well as provide other financial planning benefits. If you have been giving cash, consider instead giving appreciated securities. You can deduct the market value of the securities at the time of donation from your current income, and legally avoid the capital gains tax that would be due if you sold the stocks and realized a gain instead. Now, who would not want an opportunity to save on taxes?

If you are retired and need to balance income with your philanthropic impulses, consider giving with a Charitable Remainder Annuity: you may be able to reduce your taxable income, secure a stream of income for the rest of your life, and do good. Check in with your Certified Financial Planner professional about opportunities that may fit your needs.  

Nov 01

Four Keys to Successful Investing

By Jim Wood | Financial Planning , Investment Planning

Four Keys to Successful Investing

Successful Investing

Warren Buffet

On September 8, 2015  Beverly Quick of CNBC “Squawk Alley” spoke with Warren Buffett about investing:

According to Buffett: “ I’m no good on what’s going on in the markets . I have no idea what will happen tomorrow or next week and sometimes they get very volatile like this and other times they put you to sleep, but the important thing is where they’re going to be in five or ten years. And I’m confident they’ll be considerably higher in ten years, and I really have no idea where they”ll be in ten days or ten months.”

an investment plan utilizing a systematic approach will eventually pay off

Warren Buffett is arguably one of the outstanding investing gurus of our age and if he does not believe that he can “time” the markets, why should we believe that we, our brokers, financial planners, stock market letter writers, and, especially, television market commentators can make accurate predictions about stock prices and market levels?

As has been demonstrated by Buffet, an investing plan, utilizing a systematic approach will eventually pay off over a long period of time regardless of all market perturbations if adhered to conscientiously.

The keys to successful investing are to

1) Determine your goals,

2) Determine the time you have left to accomplish these goals,

3) Determine a savings plan, and

4) Invest in a fully diversified portfolio.  

With the memories of the Great Recession of 2008 still fresh in our minds, it is understandable if the unsettling stock market of the past few months, would instill in us a sense of panic.

That would be the wrong move.

The right move is to make sure that your investing reflect your goals, your time horizon, and your means .  A Wealth Strategist with a steady hand can help you ensure that you get on the right path and stay there.

Please note: The above blog post is general in nature and not intended to address any specific person’s needs or circumstances.  Investment advice is specific to each individual and is provided only after detailed discussion and understanding of personal circumstances. The above article is general in nature and not intended to address any specific person’s needs or circumstances.   

 

Check out some of our other investment blog posts:

Market Correction? Hold On To Your Socks!   

3 Mistakes of DIY Investors 

5 Symptoms of Fake Portfolio Diversification   

4 Counter-Intuitive Steps to Make Your 401(k) Rock   

Sustainable Investing: Doing Good While Doing Well   

 

A previous version of this article appeared in the Colonial Times of Lexington MA

Sep 09

Stock Market Blues

By Chris Chen CFP | Financial Planning , Investment Planning

Stock Market Blues

Stock Market BluesAs the stock market plunged almost 10% on Monday August 24, following similar plunges in China and Europe, it is natural to ask whether one should be invested in the stock market at all. After all a 10% drop is significant, and the media makes sure that we know that.  

the average equity fund investor made on average 5.19% a year

And it is not just the US stock market. We have heard rumblings since June now about economic malaise in China, including a similar drop of 8% in the Shanghai stock market on August 24 as well. We have fretted about Grexit, the potential Greek exit from the Eurozone. We have seen gas going down at the pump, and we cannot even feel good about that!

So then, is it time now to get out of the stock market? Or if you have cash on the sidelines, is it time to get in?

It is worth pondering that from 1900 to 2010, 10% corrections have happened on average three times a year. 20% corrections have happened on average every 3.5 years. In other words, stock market corrections happen “all the time”. Based on statistical evidence, the only thing that your Financial Planner can tell you with regard to future stock market directions is that it will go up and it will go down!

I know, it’s not very reassuring. Your adviser or financial planner has probably told you that you need to be invested for the long term. That requires us to be committed, and to be invested. (If we have needs that are not long term, say college tuition for the next term, that money should not be in the stock market).

When, then, should we get in or out? The fact is that no one, not even the smarty pants who run your mutual funds, are able to time the market with any reliability. That is one of the reasons why mutual funds are consistently invested; they don’t get in and out of the market based on short term fluctuations.

In a recent study, Dalbar found that from January 1995 to December 2014, the average equity fund investor made on average 5.19% a year, while the equity markets went up on average 9.85% annually. One of the key contributing factor to this huge disparity is that individual investors have a tendency to get out when the stock market is low, and to get in after it has recovered.

Yet, it is natural to be scared. If you feel scared about the financial markets, today may be a good time to call your Financial Planner. If you manage your own money, today may be the time to set an appointment with one!

A previous version of this article appeared in the Boston Globe on August 24, 2015

Apr 12

The Dirty Dozen Tax Scams

By Chris Chen CFP | Financial Planning , Investment Planning , Tax Planning

The Dirty Dozen Tax Scams

IRS Tax buildingI recently read the IRS Dirty Dozen Tax Scams, 2015 edition, the government’s annual guide for taxpayers to potential tax scams, so you wouldn’t have to!

The first item of interest, although at the bottom of the IRS list, are issues with various phone or email scams.  “Whether it’s a phone scam or scheme to steal a taxpayer’s identity, there are simple steps [for consumers] to take to help stop these con artists,” IRS Commissioner John Koskinen says.

At the top of the list of things the IRS wants us to beware of are telephone and email scams. If someone calls claiming to be from the IRS and pressures you to give him or her money, hang up. If you receive an email from someone claiming to be with the IRS and asking for personal information or money, delete it.

The IRS also advises that taxpayers stay on the alert for identity theft, especially around tax time.

(earlier versions of this posts were published on nerdwallet and the Christian Science Monitor)

Steve Johnson on Unsplash.com
Jun 03

What Fees Are Associated With Your Retirement Plan?

By Chris Chen CFP | Financial Planning , Investment Planning , Retirement Planning

What Fees Are Associated With Your Retirement Plan?

There’s a little secret associated with your workplace -sponsored retirement plan.  Usually that is a 401k. However, it can also be a 403b, a 457, or a SIMPLE IRA. Most participants think their plan is free – That it doesn’t cost them anything to join, contribute, and invest.  Unfortunately, that’s not entirely true.

While employees typically aren’t charged any out-of-pocket costs to participate in their plans, participants do pay expenses, many of which are difficult to find and even more difficult to calculate. New regulations from the Department of Labor (DOL), which oversees qualified workplace retirement plans, should make it easier for participants to locate and comprehend how much they are paying for the services and benefits they receive.

Here’s a summary of the information you should receive.

  1. Investment-related information, including information on each investment’s performance, expense ratios, and fees charged directly to participant accounts. These fees and expenses are typically deducted from your investment returns before the returns (loss or gain) are posted to your account. Previously, they were not itemized on your statement.
  2. Plan administrative expenses, including an explanation of fees or expenses not included in the investment fees charged to the participant. These charges can include legal, recordkeeping, or consulting expenses.
  3. Individual participant expenses, which details fees charged for services such as loans and investment advice. The new disclosure would also alert participants to charges for any redemption or transfer fees.
  4. General plan information, including information regarding the investments in the plan and the participant’s ability to manage their investments. Most of this information is already included in a document called the Summary Plan Description (SPD). Your plan was required to send you an SPD once every five years, now they must send one annually.

These regulations have been hailed by many industry experts as a much-needed step toward helping participants better understand investing in their company-sponsored retirement plans. Why should you take the time to learn more about fees? One very important reason: Understanding expenses could save you thousands of dollars over the long term.

While fees shouldn’t be your only determinant when selecting investments, costs should be a key consideration of any potential investment opportunity. For example, consider two similar mutual funds. Fund A has an expense ratio of 0.99%, while Fund B has an expense ratio of 1.34%. At first look, a difference of 0.35% doesn’t seem like a big deal. Over time, however, that small sum can add up, as the table below demonstrates.

Expense ratio

Initial investment Annual return Balance after 20 years

Expenses paid to the fund

Fund A

0.99% $100,000 7% $317,462 $37,244
Fund B 1.34% $100,000 7% $296,001

$48,405

Over this 20-year time period, Fund B was $11,161 more expensive than Fund A. You can perform actual fund-to-fund comparisons for your investments using the FINRA Fund Analyzer.

If you have questions about the fees charged by the investments available through your workplace retirement plan, speak to your plan administrator or your financial professional.

 

Note:   Investments are not FDIC-insured, nor are they deposits of or guaranteed by a bank or any other entity, so you may lose money. Past performance is no guarantee of future results. For more complete information about any mutual fund, including risk, charges, and expenses, please obtain a prospectus. Please read the prospectus carefully before you invest. Call the appropriate mutual fund company for the most recent month-end performance results. Current performance may be lower or higher than the hypothetical performance data quoted. The hypothetical data quoted is for illustrative purposes only and is not indicative of the performance of any actual investments. Investment return and principal value will fluctuate; and shares, when redeemed, may be worth more or less than their original cost.