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MBA Series – What Makes Asset Allocation So Important? “Don’t put all of your eggs in one basket.” The beginning of the year is typically portfolio rebalancing time for investors. I write a lot about investing as it is an achievable path to long-term wealth. If you don’t know what asset allocation is or much about investing at all, then this article is for you. Modern Portfolio Theory is the science that drives most of the writing about investing today. After teaching a university Investments class, and reviewing the concepts of Modern Portfolio Theory, I’m reminded the key reasons that asset allocation is important. What is Asset Allocation? When creating an investment portfolio, asset allocation means selecting specific asset classes and choosing the percentage amount invested in each asset class.  Sample asset classes are: U.S. Stocks U.S. Corporate Bonds International Stocks International Bonds Real Estate or REITs Government Bonds Small Cap Stocks Large Cap Stocks Diversification – Tried and True Investing Diversification in investing means don’t put all of your money in one investment or one type of investment. Why diversify? There aren’t many people that can stomach three years of declining stock prices. In 2000, the market dropped a total of a 42.85% during 2000 through 2002. S&P 500 With a concentrated portfolio, when that investment goes down, there goes the value of your invested assets-down. And vice versa. Buy different types of investments, so that when one goes down in price, the others may go up, or at least remain stable. Diversification smooths out the ups and downs of your investments. For example, it is rare for bonds and stocks to go down drastically at the same time. During certain years, bonds will outperform stocks, and in others, stocks outperform bonds. S&P 500 Dividends ReinvestedUS Small Cap3-month T. BillUS T. Bond (10-year)Baa Corporate BondReal EstateGold201721.61%15.13%0.95%2.80%9.15%6.21%12.66%2018-4.23%-16.21%1.97%-0.02%-3.18%4.52%-0.93%201931.21%11.92%2.11%9.64%15.25%3.69%19.08%202018.02%34.16%0.36%11.33%10.60%10.43%24.17%202128.47%22.41%0.04%-4.42%1.02%18.86%-3.75%2022-18.04%-22.90%2.09%-17.83%-15.23%5.65%0.55%202326.06%5.19%5.28%3.88%8.74%5.68%13.26%202424.88%8.70%5.18%-1.64%1.74%3.96%25.96%202517.78%16.53%4.21%7.80%6.96%1.58%66.22% Source: https://pages.stern.nyu.edu/~adamodar/New_Home_Page/datafile/histretSP.html Take a look at a 2022 anomaly: high inflation and subsequent interest rate spikes, caused a S&P 500 tumble of -18.04% and the 10-year US Treasury bond to plunge -17.83% simultaneously. However, look at how beautifully the balance restored itself just a year later: in 2023, the S&P 500 soared 26.06% while bonds stabilized with a return of 3.88%. Despite the stock and bond market losses in 2022, your investment losses would have been tempered, had you also owned real estate and gold. Real estate delivered a 5.65% gain and Gold remained flat with a 0.55% uptick. Over long periods, combining these asset classes drastically curtails your portfolio’s overall volatility. Bonus: What Should My Asset Allocation Be? Over long periods of time stocks have outperformed bonds, but a combination of diverse asset classes reduces your portfolio volatility (as measured by standard deviation). Notice that in 2021, the S&P 500, a proxy for the stock market averaged 28.40% return, while the 10 year Treasury bond lost 4.42%. Next, travel back in time to 2008 when the S&P 500 sunk a disastrous -36.55% and the 10

A close review of Form ADV can reveal compensation arrangements, referral fees, and other economic conflicts that may influence an advisor’s recommendations. Investors who read these disclosures carefully often spot important details before signing on the dotted line – Shutterstock Choosing a financial advisor often feels like hiring a guide for a long road trip. Most investors focus on credentials, experience, and personality, but another factor deserves just as much attention: how that advisor gets […]

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Book & Series Review | Strategy A Banker’s Safari: Navigating The Zoo of Factors with Berkin and Swedroe’s Guide to Factor-Based Investing BOOK RATING ☆☆☆☆☆ Rated 4.5 out of 5 For our readers itching to outdo the average ‘Golden Retriever’ or ‘Cyclist’ portfolio, craving an edge with more diversification and potential for higher-than-average returns, we highly recommend starting with Berkin and Swedroe’s “Your Complete Guide to Factor-Based Investing”.This book navigates you through the ‘zoo’ of factors, retaining only the most pertinent and investable factors influencing returns, including the ones that accounted for most of Warren Buffett’s outperformance. But beware, it’s not all smooth sailing. Risks and costs lurk around the corner, demanding knowledge and patience.Designed for our ‘Banker’ readers with an advanced grasp on investing, a handy rule of thumb may be: if this review was read with ease, the book’s content will be a breeze. KEY TAKEAWAYS Factors are specific company characteristics that have been shown by rigorous academic studies to lead to higher returns, both absolute and risk-adjusted.Factors explain the performance of legendary investors, like Warren Buffet and Benjamin Graham, to a large extent.There is a “zoo” of factors, but a few simple rules allow the authors to keep only seven that are worth investing in.Implementing a factor-based portfolio is non-trivial, especially in the UCITS universe where factor ETF availability is very limited. Unfortunately, this book does not provide much practical advice in this direction.Not all ETFs marketed as “smart beta” are in fact “smart,” sometimes they are just expensive “beta.” Rigorous due diligence is required from investors.Sticking to a factor-based portfolio can be psychologically difficult. From personal experience, seeing the small-cap value part of my portfolio being essentially flat while various glamour and meme stocks take off has been painful. Here is the full analysis What is in the book? Andrew Berkin and Larry Swedroe are a power duo of evidence-based investing. Andrew is the Head of Research

Humans are mimetic creatures. Whether it’s career paths or lifestyle choices, we subconsciously mirror the people we admire. In the world of investing, this usually means looking at the titans — the Warren Buffetts, the legendary fund managers, or the “FinTwit” star who retired at 35. Those who understand that these are exceptional, unrepeatable characters… The post The Role Model Trap: Why Emulating Successful Investors Can Backfire appeared first on freefincal.

Working in England in the 14th century was difficult to say the least. Between the harsh conditions and low wages, you also had to fight against the occasional disease outbreak and a repressive government. As the Black Death spread across England, killing anywhere from 30%-50% of the population, King Edward III issued a decree to freeze wages and prevent workers from asking for more. Anton Howes summarized what happened next: As the plague still raged, in 1349 Edward III issued an emergency ordinance to try and contain the economic fallout. Even though half the population died, their gold and silver coins survived, so that there was suddenly twice as much coinage in circulation per head. And so one of the immediate effects was for the price of everything, including both goods and services, to rapidly rise. This rapid inflation, brought on as it was by so many people dying, inevitably led to higher wages being demanded for all kinds of work. “Seeing the necessity of masters and great scarcity of servants”, the ordinance explained, workers now found themselves able to pick and choose who they worked for, and to hold out for much higher wages than before. While the ordinance (with its threat of imprisonment) was successful in preventing wages from rising too rapidly, the market found an alternative solution to this problem—non-monetary compensation. Once again from Howes: Although the statute stipulated the amount of cash that workers could be paid, both with and without providing them with food and drink, it didn’t say anything about the quality or even the quantity of that food or drink. So instead of giving them bread made of rye, barley or beans, perhaps with a slice of old salted bacon to sweeten the deal, employers now had to provide their workers with only the best-quality wheaten bread, and with freshly-cooked meat still warm from the pot. Instead of providing them with mere water to quench their thirst, employers now had to give them the freshest of ales. As one contemporary complained, the servants were now demanding “to be better fed than those who hired them”. Ultimately, it was supply and demand that determined how workers were compensated, not royal decree. This example illustrates how market forces find a way to triumph over human intervention. But is the same thing true in the stock market? Can supply and demand tell us anything about future stock returns? Some data suggests so. The American Association of Individual Investors (AAII) has tracked aggregate investor allocations to stocks, bonds, and cash going back to 1987. Over this time period, individual investors allocated 62% of their portfolios, on average, to equities. You can see this in the chart below, which plots the aggregate investor allocation to equities over time (in black) along with the long-term historical average of this measure, 62% (in gray): When I look at this data I notice two things. First, the average allocation to equities tends to decline during market crises (e.g., DotCom, GFC, COVID,

Save, invest, prosper with My Own Advisor. The Cash Wedge – Managing Market Volatility If you want to withdraw income from your portfolio, how much do you take out and when? With the stock market up or down at any given time, what can you do to fund your retirement lifestyle? Well, this is where your cash wedge comes in – to… Early retiree thanks to DIY investing in stocks and ETFs. The article The […]