Re-balance Cycle Reminder

The next re-balance time will be on next MondayDecember 24, 2012. You can also find the re-balance calendar of 2012 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.

New Portfolio

We are adding P Relative Strength Trend Following Six Assets to Advanced Strategies page.  This portfolio is a live reference benchmark for relative strength or trend following based tactical asset allocation.  It is a risk profile 0 portfolio that can invest 100% of its portfolio in risk assets in some periods of time. 

Financial Repression & What To Do

The latest Federal Reserve Quantitative Easing IV is another example and step in the era of financial repression. Though financial repression is a term often used in media without much explanation, we believe it is important for investors and savers alike to understand its meaning and its ramifications on investments. 

The best material we recommend to read is A New Era of Global Financial Repression by PIMCO’s Scott Mather. It was published in June 2011 but it is as accurate now as it was then. In the missive, he defined financial repression as follows: 

Any sovereign policy that interferes with free market activity and the pricing of debt or currency can be thought of as an act of financial repression. Policies can be designed to alter market prices of debt or currency through direct intervention, or indirectly through altering the amount of debt or currency demanded at a given price.

Some examples of financial repression are: 

  • Extremely low interest rates that makes inflation rate higher than the interest rates, so called ‘negative’ real rate (real rate = interest rate – inflation rate). 
  • Bank lending and credit expansion is restricted due to more restricted regulations over bank reserves and liquidity targets. Banks are forced to hold more government bonds, thus effectively pushing down government borrowing cost. 

Through government’s market intervention by injecting capital to insolvent banks and saving their bond holders, wealth is transferred from savers and investors to de-leverage debts held by financial institutions (and governments) by the governments.  Another way to look at this, based on Mather,  is 

Many policymakers are drawn to financial repression as a sneakier form of taxation or fiscal austerity. Direct tax increases or entitlement spending cuts are politically hazardous; the repression “tax” is much more subtle.

What is important to understand is that financial repression has been employed by central banks around the world, in both developed and emerging economies. It is not just the U.S., it is done by Europe, Japan and emerging nations like China (in fact, China has been doing this over the years, including capital account and exchange rate controls). 

Here is the chart from Mather’s that shows how the global real short rates have become negative recently: 


We can draw several implications of financial repression based on the above discussion:

  • Slower economic growth: since policy makers opt to use a more subtle form to restructure debts, financial repression in the medium to longer term will result in anemic economic growth that will be much lower than previous norm. 
  • Uneven shocks in the road: on the other hand, such a tactic might not be able to fill the debt hole faster than it is dug by governments, as pointed out by Mather in the paper.  The repercussion can be more frequent economic recession or social or political unrest. 
  • ‘Safe’ assets are no longer safe: cash, savings are robbed by the negative real rates. Your money are worth less and less, even in the absence of high inflation, let alone the eventual much higher inflation down the road. 
  • Risky assets are still risky or even more so: in such a period, stocks and other forms of risky assets are by no means safer as economies muddle through with frequent shocks in financial markets. This, coupled with ‘forced’ elevated high levels of stock prices, makes these assets even more risky. 

What to Do 

The explicit financial repressive tactics adopted by governments around the world have made investing in the coming years much more challenging. For savers, retirees and investors, here are several ways to cope with this: 

  • Diversification: though ‘safe’ assets are no longer safe and ‘risky’ assets are more risky, these assets will be in sync and out of sync in various times, depending on when and how central banks and governments intervene the markets. 
  • Treasury Inflation Protected Securities (TIPS): though TIPS are now in high demand, it is still a good anchor to park some of your assets in it. Given its expensive price at the moment, long term investors should choose a better entry point. 
  • Income producing assets including MLPs, rental properties, REITs and high dividend stocks are ways to latch on general economic development to counter high inflation. Income producing equities force company management to take care of cash flow more prudently. They return part of their earnings back to investors. 
  • Other hard assets including precious metals are also good to counter fiat money debasement. However, precious metals such as gold that do not produce any income are much more volatile and they should be used with care. 
  • Be nimble and be tactical in your portfolio management: tactical allocation such as the trend following Tactical Asset Allocation used in MyPlanIQ can be effective in some business cycles, as illustrated in our previous newsletter December 10, 2012: How Asset Allocation Strategies Performed In Secular Market Trends. Tactical allocations shift asset exposure dynamically, depending on market conditions. They should be used with Strategic Asset Allocation to form core and satellite portfolios to better balance out their pros and cons in different market cycles. 


Portfolio Performance Update

The following shows how tactical portfolios of brokerage specific ETF plans have performed so far: 

Portfolio Performance Comparison (as of 12/14/2012)

Ticker/Portfolio Name 1 Week
1Yr AR 1Yr Sharpe 3Yr AR 3Yr Sharpe 5Yr AR 5Yr Sharpe 10Yr AR 10Yr Sharpe
Vanguard ETFs Tactical Asset Allocation Moderate 0.3% 10.5% 10.6% 183.8% 8.8% 80.1% 7.2% 57.7% 10.3% 79.2%
Etrade All Star ETFs Tactical Asset Allocation Moderate 0.3% 7.0% 7.9% 130.2% 8.8% 78.4% 10.2% 89.8% 12.4% 102.9%
Fidelity Commission Free ETFs Tactical Asset Allocation Moderate -0.2% 7.2% 7.3% 145.5% 7.0% 69.0% 6.0% 56.7% 10.0% 82.1%
TD Ameritrade Commission Free ETFs Tactical Asset Allocation Moderate 0.2% 7.2% 7.2% 113.7% 6.0% 54.6% 3.4% 24.5% 8.6% 65.9%
Schwab Commission Free ETFs Tactical Asset Allocation Moderate 0.3% 6.2% 6.2% 123.7%            

*: NOT annualized

**YTD: Year to Date

See the up to date comparison >>

Vanguard ETFs Tactical Asset Allocation Moderate stands out among these portfolios. The comprehensive line up and low cost ETFs in the plan made it possible for the strategy to take advantage of various ETFs’ strength this year. Dividend stock ETFs and various excellent index bond ETFs are the two parts that are not available in other plans. 

Market Overview

From the asset trend table on Asset Trends & Correlations or more detailed ones on 360° Market Overview, we can see that international and emerging market stocks continued to out perform. In fact, in the past three weeks or so, US stocks have shown their fatigue and descended to lower positions in the trend score tables. Gold continued its relative weakness, though it still has positive trailing 52-week return. 

We are still in the strongest season of the year for stocks. For now, enjoy the season in both life and markets. 

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. 

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