Re-balance Cycle Reminder All MyPlanIQ’s newsletters are archived here.

For regular SAA and TAA portfolios, the next re-balance will be on Monday, June 26, 2017. You can also find the re-balance calendar for 2017 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.

Alternative Assets And Their Role In Portfolios

MyPlanIQ maintains several alternative portfolios on Brokerage Investors (What We Do -> Brokerage Investors). These portfolios emphasizes some alternative assets such as gold. Financial media have defined alternative assets in various ways. In this newsletter, we would like to discuss this concept in some details. 

The simplest and most popular definition is that any asset other than traditional stocks and bonds are defined as alternative assets. By this definition, not only commodities and gold are called alternative assets, even REITs (Real Estate Investment Trust) and TIPS (Inflation Protected Securities) are classified as alternative. Other definitions vary. 

We look at this problem from a different angle. Our key yardstick is so called intuitively productive assets. 

Productive assets vs. speculative assets

By intuitively productive assets,  we mean those assets that can intuitively perceived to produce value in a long term. Let’s look at the asset classes we have frequently discussed and used by MyPlanIQ:

  • Stocks: stocks represent (fractional) ownership of a business. In a fair marketplace, in aggregate, businesses have to produce extra returns in excess of cash or safer bonds. In a more technical details, that would mean businesses owners can derive extra cash (flow) in a long term. Otherwise, business owners will abandon their risky enterprises and simply invest in bank deposits or lending (bonds). We have discussed long term stock returns in many newsletters such as the latest April 17, 2017: Risk vs. Volatility: Long Term Stock Market Returns. It is easy and intuitive to comprehend this. Thus, stocks in aggregate are a productive asset. Notice that we use ‘in aggregate’ as for any single stock (business), there is no guarantee that business can definitely derive extra returns above cash or bonds even in a very long period. Furthermore, in a long term, stock value can be estimated as the total free cash flow it produces. It is thus relatively easy to estimate stock fair value (in a long term). 
  • Bonds: bonds are lending certificate with interests. Again, the value of a bond in its lifetime can be relatively easily estimated. It’s very intuitive to comprehend its value. Bonds are a productive asset also. 
  • REITs: REITs are a subset of stocks that specialize in real estate investments. It’s actually very easy to comprehend REIT’s value by looking at its cash flow (or in REIT terminology, FFO or Funds From Operation). Again, as a major asset for any business, in aggregate, one can easily infer that in the long term, REITs should produce higher returns than cash. 
  • TIPS: Inflation protected bonds or securities are relatively new (well more than 20 years now). Some still classify it as an alternative asset as its value consists of inflation adjusted interest and the final inflation adjusted principal, which seems to be convoluted. However, though not as conventional as traditional bonds, TIPS definitely are of productive value. 
  • Commodities: this leaves commodities whose value is hard to estimate. Though one can claim that the prices of commodities should rise with inflation in the long term, the problem is that their prices are also (mainly) determined by the supply/demand relationship. For commodities such as agricultural products and industrial metals that are useful or essential for business or human livelihood, their value can still be weakly comprehended as supply/demand eventually should obey fair capital market rules. However, even with this, it’s still hard to comprehend its excessive value over inflation rate. 
  • Gold and silver: these precious metals are mostly used for display of perceived value. They are more subjective than other commodities. In human history, gold is viewed to be able to preserve value. However, its extra value above inflation is again very hard to estimate and comprehend. 

To summarize, commodities, gold and silver are really not intuitively productive assets. It’s hard to estimate their fair value. From this angle, we would classify them as alternative assets while we classify stocks, REITs and bonds as productive assets. 

In general, alternative assets should be used with care. For a  Strategic Asset Allocation (SAA) portfolio, alternative assets should only be used within certain mega trends or major themes. At the moment, MyPlanIQ SAA portfolios have some exposure to these alternative assets. The reason is that the US and global central banks have adopted ultra loose monetary policies that will erode the value of paper currencies eventually. Globalization in the past 20 years has unleashed strong demand to natural resources. Furthermore, given the current geopolitical situations and the overvaluation of stocks and bonds, we believe these alternative assets can serve as a hedge. However, we don’t expect the allocation and the holding of these assets will be forever, unlike stocks and bonds. Regardless, we believe investors should only have some small portion allocated to alternative assets in their overall investments because of their speculative nature. 

For a Tactical Asset Allocation(TAA) portfolio, we view the alternative assets more like candidate trading assets that can give our portfolios more opportunities. But we caution that these assets behave more speculatively and investors should treat them as such also. 

Alternative portfolios review

The following are the alternative portfolios that we often review: 

Portfolio Performance Comparison (as of 5/26/2017):
Ticker/Portfolio Name YTD
1Yr AR 3Yr AR 5Yr AR 10Yr AR 10Yr Sharpe
Harry Browne Permanent Portfolio 5.7% 4.5% 3.9% 3.8% 6.0% 0.81
Permanent Income Portfolio 2.8% 3.2% 4.5% 4.8% 5.8% 0.9
My Simple Alternative Hedge Fund 3.8% 6.3% 2.7% 7.0% 8.3% 1.01
Bridgewater All Weather Portfolio Risk Parity 3.3% 5.2% 3.0% 3.1% 5.2% 1.23
Bridgewater All Weather Portfolio 4.8% 7.0% 3.5% 4.0% 5.9% 1
VWINX (Vanguard Wellesley Income Inv) 3.9% 6.8% 5.6% 7.5% 6.7% 0.95

These portfolios have kept up with VWINX (Vanguard Wellesley Income Inv) well. The performance of the alternative assets: 

Alternative Asset Performance Comparison (as of 5/30/2017):
Ticker/Portfolio Name YTD
1Yr AR 3Yr AR 5Yr AR 10Yr AR 10Yr Sharpe
GLD (SPDR Gold Shares) 10.0% 3.9% 0.0% -4.6% 6.4% 0.31
DBC (PowerShares DB Commodity Tracking ETF) -6.1% 0.9% -17.4% -10.6% -4.9% -0.26
VIPSX (Vanguard Inflation-Protected Secs Inv) 1.5% 1.7% 1.0% 0.3% 4.1% 0.59
LTPZ (PIMCO 15+ Year U.S. TIPS ETF) 2.7% 3.0% 2.1% 0.6%    
TLT (iShares 20+ Year Treasury Bond) 4.3% -2.9% 5.7% 2.6% 7.1% 0.45
LQD (iShares iBoxx $ Invst Grade Crp Bond) 3.1% 3.5% 3.5% 4.1% 5.6% 0.6

A few noticeable points:

  • Gold (GLD) has done very well YTD. It also has a reasonable return for the past 10 years. 
  • Similarly, long term bonds have defied naysayers and have done their jobs: in terms of returns and hedging. 
  • However, broadbase commodity index ETF DBC has a very dismal performance for the past 10 years. This has become a drag to those portfolios that have taken exposure to this asset. 

Market Overview

Though major stock indexes like S&P 500 and Nasdaq continue to levitate around record close levels, we should be aware that there has been some considerable divergence among individual stocks. Small cap stocks are lagging and only some large technology stocks such as Apple, Facebook etc. are at record levels. Long term bonds have recovered from their year end slump, mostly because of worry on economic growth strength. As we stated, we believe risk is lurking and one should be cautious. 

For more detailed asset trend scores, please refer to 360° Market Overview

Now that the Trump administration is officially sworn in, the new president is facing the reality to deliver his many promises to make substantial changes. As the nation is posed to invest, the most important factor to watch is how productive the investments will be. Simply put, productive investments will result in better return on investment (ROI), tangibly or intangibly. They should also increase productivity that in turns will improve our standard of living. Capital misallocation can result in a higher growth but might not improve the real standard of living, which is the ultimate goal of economic activities. Whether the new president can truly achieve this goal is still yet to be seen. One thing is certain: we will see more market volatilities. 

In terms of investments, U.S. stock valuation is at a historically high level. It is thus not a good time to take excessive risk. However, we remain optimistic on U.S. economy in the long term and believe much better investment opportunities will arise in the future. 

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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