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Re-balance Cycle Reminder
The next re-balance will be on Monday, April 8, 2013. You can also find the re-balance calendar of 2013 on ‘Dashboard‘ page once you log in.
As a reminder to expert users: advanced portfolios are still re-balanced based on their original re-balance schedules and they are not the same as those used in Strategic and Tactical Asset Allocation (SAA and TAA) portfolios of a plan.
Please note that we now list the next re-balance date on every portfolio page.
Should you change your risk profile now?
As the risk assets (stocks mainly) continue to be on a relentless rise, the chatter on bond market bubble is getting louder and louder. We are also hearing more and more people express their concerns on this upcoming ‘bond crisis’. What is more, we see people are altering their risk profiles so that more capital are allocated to stocks or REITs instead of bonds.
Though we are advocating, in addition to Strategic Asset Allocation, tactical asset allocation. This is fundamentally different from altering or changing your overall risk profiles based on personal hunches or chatters on market directions. Our Tactical Asset Allocation works within the overall target allocations (or upper bounds) based on a pre-defined risk profile. This pre-defined risk profile is derived from your personal situations. It should be independent of current or predictive future market directions.
There are several reasons to go against this ‘on the fly’ risk profile change.
First, when you start to alter your risk profile so that more are allocated to stocks, you are essentially changing your asset allocations at the very top level. This is essentially making a bet on your hunch.
As stated many times before, the hardest part for making a bet is to consider the consequence of your betting failure, not the success of your bet. We know that it is not a sure thing in predicting the future.
So what happens if it turns out that stock markets go south next? At that time, what happens if economies do get into serious trouble (which is definitely a possibility)? In general, the more risk assets, the higher possible loss, this is even true for Tactical Asset Allocation. So it is very likely and possible your portfolio will suffer from bigger loss. The question to ask here is whether you can withstand the loss at that time.
If you feel you can not stick to the new risk profile comfortably in the above scenarios, that means the new risk profile is not for you. Unless you are comfortable to take a bigger loss, you shouldn’t increase your risk allocations. That again goes back to risk profile is determined by your personal risk tolerance, not by your outlook of market directions.
Unless you are comfortable to take a bigger loss, you shouldn’t increase your risk allocations. That again goes back to risk profile is determined by your personal risk tolerance, not by your outlook of market directions.
Second, related to what is explained above, changing risk profile is essentially changing your strategies. A strategy is only complete if it has all the answers (or plans) to any possible situation, however serious it is. When economies do go into trouble again, the question to ask and answer is will you change your risk profile at that time? If your answer is yes, that would be the worst time to do so.
Again, we reiterate that risk profile is independent of current or future market conditions.
But you are still not comfortable with putting too much in bonds, you might ask
Are Bond Investors Doomed?
Again, even though personally we concur with many reasons on the danger of current bond investments, we do not pretend to have the answer for the above question. Furthermore, we definitely don’t want to change our investments based on this one-off question.
As we stated in our previous article October 22, 2012: Income And Conservative Portfolio Review:
Well, it turns out the situation is not really hopeless, at least for conservative investors who are willing to take more active roles in an array of diversified assets. We believe that if you are willing to adopt a systemic but conservative investing strategy over a spectrum of risks in fixed income assets, reasonable returns can still be obtained.
So what are the asset classes in the fixed income areas that can help to counter the current financial repression:
- high yield bonds: with super loose and accommodative monetary policies from the central bank, companies can obtain credits more easily. Low grade companies such as those small cap companies can finance their operations through junk bond issuing. High yield (or junk) bonds have exhibited strong and reliable momentum, as shown by our advanced portfolios such as P High Yield Bond Alpha VWEHX. This renders high yield bond funds as good candidates for a trend following strategy.
- Long term bonds in TIPs (inflation protected bonds), Treasury and corporate bonds: long term bonds have played important roles in a permanent portfolio (see All Weather Portfolio Construction Part 1: Permanent Income Portfolio) or risk parity based all weather portfolio (see Ray Dalio’s All Weather Portfolio: A Variation of Permanent Portfolio). Both Harry Browne and David Swensen have advocated using long term bonds as an insurance for a portfolio (see, for example, David Swensen Six ETF Asset Individual Investor Plan). Given exceptional low yields in the long term bonds, however, one has to be careful, especially in using them statically in a strategic asset allocation portfolio. We would feel more comfortable in using them in a tactical or trend following portfolio to take advange of these bonds’ strength when present.
- International and emerging market bonds: two reasons to have these bonds as portfolio building candidates: 1). U.S. dollar weakness as the loose monetary policy adopted by the Federal Reserve bank and the U.S. government debt issue have driven U.S. dollar valuation steadily lower for the past 10 years. It is thus a good hedge to have exposure in foreign bonds that are denominated in local currencies. 2). The past decade has seen emerging market economies have risen to rival developed markets. In fact, many emerging market countries such as China, Brazil and Russia have sovereign debts that are much more sound (at least based on reported data). Emerging market debts have high yields. We again feel investing in these bonds warrants an active or tactical approach.
Of course, all of the above bonds are sitting on the riskiest end of the fixed income risk spectrum. These assets are not going to rise forever, there will be up and down periods. In fact, at the moment, we see very little value in high yield and long term bonds. The key here is to capture these bond assets intermediate trends. Bond asset rotation can help. Diversification also helps: constructing a fixed income portfolio that has some limited exposures into these riskier bond assets is one way to hedge out risks among inflation, deflation and currency depreciation.
Basically, similar to risk assets and fixed income, bond investments can be further classified into risky spectrum and safer spectrum. Managing these investments using trend following can still yield a very reasonable return.
Some of the advanced portfolios:
- P Bond Funds Momentum Based on Upgrading Fixed Income Managers of the Year`s Funds Quarterly: following total return bond funds whose managers have won Morningstar’s fixed income manager of the year award.
- P No Load Conservative Mutual Funds Upgrading Quarterly: technically, these are not all fixed income bond funds. They include conservative allocation funds.
Finally, we showed the following two all bond fund tactical portfolios that were constructed by using risk profile=100 (i.e. all fixed income):
- Vanguard Bond Funds Trend Following from plan Vanguard All Index Funds Investor Class. Start date is 12/31/1996.
- Fidelity Extended Fund Picks Bond Trend Following from plan Fidelity Extended Fund Picks.
Portfolio Performance Comparison (as of 3/18/2013)
| Ticker/Portfolio Name | 1 Week Return* |
YTD Return** |
1Yr AR | 1Yr Sharpe | 3Yr AR | 3Yr Sharpe | 5Yr AR | 5Yr Sharpe | 10Yr AR | 10Yr Sharpe |
|---|---|---|---|---|---|---|---|---|---|---|
| VBMFX | 0.4% | -0.4% | 4.0% | 137.8% | 5.2% | 136.6% | 5.4% | 118.9% | 4.9% | 89.5% |
| Vanguard Bond Funds Trend Following | 0.3% | -0.2% | 5.3% | 219.9% | 7.1% | 158.7% | 6.4% | 132.4% | 5.4% | 100.0% |
| P No Load Conservative Mutual Funds Upgrading Quarterly | 0.1% | 1.4% | 6.3% | 176.6% | 5.4% | 108.5% | 7.2% | 129.4% | 9.0% | 141.2% |
| VBINX | 0.1% | 5.7% | 10.1% | 134.4% | 9.9% | 94.9% | 6.6% | 42.9% | 7.9% | 56.0% |
| Fidelity Extended Fund Picks Bond Trend Following | 0.3% | 1.4% | 12.0% | 494.1% | 9.7% | 240.6% | 8.5% | 161.5% | 7.1% | 128.6% |
| P Bond Funds Momentum Based on Upgrading Fixed Income Managers of the Year Quarterly | 0.1% | 1.9% | 9.6% | 285.4% | 4.6% | 109.1% | 7.1% | 136.5% | 8.8% | 154.1% |
*: NOT annualized
**YTD: Year to Date
Portfolio Performance Review
The following shows how the original lazy portfolios listed on Lazy Portfolios have performed recently:
Portfolio Performance Comparison (as of 3/18/2013)
| Ticker/Portfolio Name | 1 Week Return* |
YTD Return** |
1Yr AR | 1Yr Sharpe | 3Yr AR | 3Yr Sharpe | 5Yr AR | 5Yr Sharpe | 10Yr AR | 10Yr Sharpe |
|---|---|---|---|---|---|---|---|---|---|---|
| Wasik`s Nano | 0.1% | 4.1% | 8.0% | 106.3% | 8.0% | 69.0% | 4.3% | 23.5% | ||
| 7Twelve Original Portfolio | -0.2% | 4.1% | 4.9% | 53.0% | 7.3% | 56.2% | 3.8% | 20.2% | ||
| P Permanent Portfolio ETF Version | 0.5% | 0.9% | 1.9% | 20.9% | 8.5% | 97.7% | 5.7% | 48.7% | ||
| Fund Advice Ultimate Buy and Hold Lazy Portfolio | 0.5% | 4.1% | 6.6% | 83.4% | 7.7% | 65.8% | 4.8% | 28.7% | 9.2% | 64.3% |
| The Coffee House Lazy Portfolio ETFs | 0.2% | 5.2% | 8.8% | 113.4% | 8.9% | 80.9% | 6.4% | 39.0% | ||
| P David Swensen Yale Individual Investor Portfolio Annual Rebalancing | -0.0% | 3.9% | 9.9% | 125.7% | 11.1% | 94.3% | 6.9% | 36.0% | 10.6% | 63.9% |
*: NOT annualized
**YTD: Year to Date
See the latest and year by year comparison >>
Permanent portfolio has been affected by the weakness of both Gold and Long Term Treasury bonds. However, this is fully expected. P David Swensen Yale Individual Investor Portfolio Annual Rebalancing is also affected by its exposure in long term Treasury bonds. Even so, it still has the strongest 5 year and 10 year performance.
Market Overview
What happened in Cyprus this week might be a precursor to Euro zone ongoing debt problems which, in our opinion, were never fully resolved. We can only hope the out right 10% confiscation of bank depositors’ money is truly a one-off event, both in Cyprus and other places.
Both long term Treasuries and Gold moved up a bit amid the above events, though it is a long way to go before we can claim any meaningful trend change. For now, we are still in a full risk on mode. For more details on the trend scores of major asset classes, refer to Asset Trends & Correlations or 360° Market Overview.
We again copy our position statements (from previous newsletters):
Our position has not changed: We still maintain our cautious attitude to the recent stock market strength. Again, we have not seen any meaningful or substantial structural change in the U.S., European and emerging market economies. However, we will let markets sort this out and will try to take advantage over its irrational behavior if it is possible.
We again would like to stress for any new investor and new money, the best way to step into this kind of markets is through dollar cost average (DCA), i.e. invest and/or follow a model portfolio in several phases (such as 2 or 3 months) instead of the whole sum at one shot.
Latest Articles
- Bond Asset Trends: Long Term Corporate Bonds Diverge From Long Term Treasuries
- From the Archives: Hobo Investing
- Value and Small Mid Cap Stocks Out Performed In a Fully Risk On Environment
- Are Financial Advisors Hazardous to Your Wealth?
- Why it is worth investing in Britain now
- ETF Trading: It’s ‘No Way to Invest’ Says Bogle
- Country Stocks: Is Italy The Only One That Has Negative Trend?
- Implications of Robust Corporate Profits and Stagnant Wages
- China manufacturing cost gap is closing
- March 11, 2013: How To Evaluate Investing Strategies
How can we improve this newsletter — we value your inputs –Thanks to those who have already contributed — we appreciate it.
Diversified Asset Allocation Portfolios For Your Plans
