Asset Allocation Project Basics

OK … I started to go down a path and I did not really stop to explain much about it.

I am putting together a model portfolios and am going to study how they would have performed over time. I basically am doing a little Asset Allocation experiment. I’m a dork, I know this.

I stated that I was going to look into what sort of percentages of yours and my portfolio ought to be placed into what mutual funds - or asset classes if you prefer. I did not give you much more information than that. Hey - I’m even less experienced in blogging than I am in financial advising!  So please let me take a step back and explain myself a bit more.

Let us get some basics out of the way. First, when I say portfolio I am really talking about a retirement portfolio - your 401k for instance. That is what I primarily use and what I suspect many of you use as well.

Next let’s talk about asset classes. I was going to look into Cash, Bonds, Stocks, Commodities, Precious Metals and Real Estate. I believe many 401k plans offer funds in each of these asset classes. Let’s take a few minutes as to why I’m focusing on these classes.

• Cash - this is the safest of all asset classes, although it does lose value relative to inflation.  Most mutual fund families include money market fund options.  I may also need to explore an option for inflation protected securities (TIPS, for instance).
• Bonds- these are also relatively safe, but they do perform poorly in inflationary times (I fear inflation these days).  They also tend to recover first in an economy before the stock markets do.  Not sure I believe that ‘conventional wisdom’ after what I’ve seen this year, but nonetheless they are a large part of my current portfolio and I believe they always will be.  They are less volatile than stocks typically.
• Stocks - what people usually think about when it comes to investing.  This is what gets studied the most.  I will look into different mutual fund types - large cap, small cap, foreign, emerging market - but I do think each of these sub-classes might be too closely correlated to really provide true diversification.
• Commodities - remember how commodities took off in the first part of 2008?  That is the sort of run up I want to be able to capture - a spike in oil or the price of corn.  There are funds out there that help you capitalize on these.  Many are not mutual funds, and so I may have to get creative when I put together my model portfolios.  These also perform well in high inflationary times.
• Precious Metals - you can’t click past CNBC.com without getting the price of Gold beaten over your head.  BULL MARKET IN GOLD.  SELL ME YOUR GOLD.  Well, precious metals are more than gold, but there’s no doubt that this should be a portion of your overall investment strategy.  What if all the ‘gold bugs’ are right?  This will also help against inflation.
• Real Estate- see note above about commodities.  There are many good real estate mutual funds out there to include in the study.   It may be that the real estate bubble has burst and these will not be a high flyer that they once were.  That is ok though.  This is a long term view, we are taking.  Real estate as an asset class can be non-correlated to the stock market, and therefore a valuable addition to your portfolio.  It has not always been so, as the last bull market seemed be tied to the real estate bubble.

Bubble, bull market … tomato, tomahto

There is another key element to what this project will bring.  REBALANCING

The only way to make sure your portfolio balance does not get too far outof balance is to rebalance the portfolio.  That means selling assets that have gone up in price and buying the asset classes that have depreciated.  Or, it could be to sell the asset classes that have lost the least- as these will still grow in percentage and will lead to necessary rebalancing.

The trick is when to rebalance.  The trick is to know the asset classes enough to sell when it makes sense to sell.  Some people do this yearly.  Some quarterly.  Some never remember to rebalance.  I believe that each asset class is its own market, and we will need to study these markets.  I’m not straying too far from my initial toughts about this website; I’m still a technical analyst at heart.  I know that looking backwards is easy and looking forwards is fruitless at times.

So I will keep a study of different rebalancing timeframes.  This will be another part of the project.

This is a project of mine.  It won’t be completed in a day.  I do have a day job and a family.  But I intend to do this right.  I have not gotten to study any more asset classes, but I will get to them in time.

Subscribe by RSS Subscribe by Email