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 11, 2018. 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.

Action Plan: Risk Review For Investments

Long term readers might have known that we regularly call for risk review on your investments. In this newsletter, we want to explain in more details. 

Regular action plans

You probably know that your investments need to be periodically reviewed and take some necessary actions. Portfolio rebalance calls for periodic review and change of your portfolio holdings, based on your investing strategies such as those described on our methodology page. However, in addition to rebalance, at a higher level, investors should also conduct risk review on his/her overall investments that might include multiple portfolios and possibly other investments such as real estates. 

So why risk review? There are at least two main reasons, among others: 

  • Your personal financial situation might have changed. For example, now that you are approaching to retirement, you’ll need to be serious to look at your overall investments and adjust your retirement needs, which is a new thing compared with that you are still at work. Another example is that now that you are planning to buy a house or just have to incur some medical cost arising from unexpected health situation. 
  • Another more mundane but less talked about reason is that your investments have changed so much such that your risk tolerance might not be compatible with it anymore. At an individual portfolio level, portfolio rebalance often takes care of this. However, this also requires attention at the overall personal investment level. Examples include your other investments’ value might have dramatically change (like rising real estate property values in some states such as California or Florida). 

Of course, the reasons can also be a combination of the above. 

The risk review should enable you to walk through situations like a possible loss from your existing investments in the near future and see whether you can endure endure it without being forced to change your investment strategies. Specifically, for our  Strategic Asset Allocation (SAA) and Tactical Asset Allocation(TAA) based portfolios: 

  • For a full stock SAA portfolio, you should expect a maximum peak to trough loss over 50%. As a reference, S&P 500 index fund lost more than 55% in the 2008-2009 financial crisis. 
  • For a balanced SAA portfolio like 60% stocks and 40% bonds, expect over 30% maximum loss. 
  • For a full stock TAA portfolio, expect over 20% maximum drawdown. For example, P Goldman Sachs Global Tactical Include Emerging Market Diversified Bonds had its 17.2% maximum loss in 2006. Oddly, it didn’t happen in a bear market. Similarly, a 200 day moving average based US stock only S&P 500ETF/index fund portfolio (see this) had 17.5% maximum loss in 2011, again, not in a bear market. The third example is the US style ETF rotation portfolio P Momentum Scoring Style ETFs and Treasuries. It incurred 22.2% maximum loss in 2010 (and 2011). Again, not in a bear market. 
  • For an at most 60% stock and 40% bond balanced TAA portfolio such as Six Core Asset ETFs Tactical Asset Allocation Moderate, expect a bit more than 10% maximum loss. For example, this portfolio’s 10.3% maximum drawdown happened in 2008, this time, it was in a bear market. 

Visualizing/simulating risk

The above are all about numbers. Unfortunately, investors often have a hard time to actually envision the pain that they might experience in an actual situation. Often, after facts, they are quick to declare that they’ll be fine with the above loss. Besides, a portfolio based on a sound long term investment strategy like our SAA and TAA always bounces back eventually. 

We have long argued that currently, investors are ill equipped with tools that can help them to simulate through real scenarios. For example, in August 21, 2017: Portfolio Performance: A Walk In The Past, we tried to show that walking through historical behavior of a portfolio figuratively, investors can understand a portfolio and its strategy much better, thus setting up a more realistic expectation. 

In the risk review case, one should consider both the magnitude of maximum drawdown and the length of a downturn. For a buy and hold portfolio, the average length of a bear market is about 15 months. But it can last as long as 3 years, just like the one from 2000-2003. So for an SAA portfolio, one should at least simulate through a worst case scenario that might last 3 years. 

For a TAA portfolio, one might have to deal with an additional parameter: relative underperformance compared with popular stock market index. In this situation, it’s not a maximum loss that can affect your decision, it’s also the relatively long period of underperformance that can dissuade you to change your plan on the fly, often at a market peak. 

Again, investors should incorporate both maximum drawdown and the length of such a period and imagine what could happen when your investments experience such a loss. Don’t walk through this too quickly, pay attention to some real personal situations like spouse complaints or junior’s college fund. 

What to do now 

The current bull market has lasted for more than 9 years. What’s more, both stock and bond valuations are at historically high. For example, the Warren Buffett’s ratio of total stock market capitalization over GNP is now about 160%, 60% more than the average (see Market Indicators for more details). If you haven’t done so, it’s a good time to conduct a risk review now. 

Calling for a risk review does not mean we believe a bear market or a severe downturn is imminent. Furthermore, this does not mean one should completely liquidate stocks unless you are adopting one of long term stock valuation based strategies like P Warren Buffett Total Stock Market Valuation to GNP Ratio SO SU Weekly Strategy Total Return Bond Funds As Cash, which is a different story: i.e. you have consciously decided that this part of your money should follow a portfolio that could possibly be in bonds instead of in stocks for many years (for example, this portfolio has been in bonds since 2014! In a word, risk review does not call for change of strategies. In fact, it only asks you to change your allocation within a strategy you are following if it’s necessary, so that you can still stick to the strategy. 

For example, that would imply that for your stock portion (such as buy and hold an S&P 500 index fund), you should totally ignore the market fluctuation (especially loss) once you have decided the right amount for this investment in your SAA portfolio. You should stick to it for a long period of time. 

Market Overview

Bonds staged a rally recently and now 10- year Treasury bond yield is back below 3%, though this is still not enough for us to declare that the downtrend in bonds is over. The latest Italy’s election result favors parties that are anti-European union. This, together with on and off Trump administration’s trade policy decisions and relationship with North Korea, is now becoming factors that is affecting markets daily. At the moment, earnings expectation is still high enough for investors to be risk on. Absent from a crystal ball, we call for staying the course. 

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

Now that the Trump administration has been in the office for more than a year, the economy and financial markets are in general still in a good shape. Whether the economy will continue to benefit from the supposedly trickle down of the tax cut, the deregulation, and the promised infrastructure spending remains to be seen.  On the other hand, stocks continued to ascend, regardless of the progress. Looking ahead, however, we remain convinced that markets will experience more volatilities at some point when reality finally sets in. 

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 about 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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