Top Q&A that investors need to modernize in 2014: What Are Investment Objectives? You see, long gone are the days where you’d answer a few questions about risk and return to determine an antiquated Modern Portfolio (MPT) Pie Chart that was once revered as the “Holy Grail of Nobel Prize winning investment allocations, customized to your objectives – NOT. The Modern Portfolio Pie Chart is dead. It died in 2008 when it failed to diversify ANYONE. Were your objectives met in the market of 2008? If not, you are not alone.
The point is, “Investment Objectives” should really be a truly customized snapshot of (NOT in order of importance):
- Your “blood pressure/sleep at night” reading during the 2008 market; Scale of 1-5, 1 being you sold all to cash in a knee jerk reaction because you weren’t sleeping at night AND 5 being the chaos didn’t alter your day-to-day life and you did not emotionally adjust your portfolio during those times.
- THE EARLIEST time at which you MIGHT dip into the account for personal goals/needs. Herein lies the biggest of Investment Objective upgrades for the times…you see, if you feel you wont need to access your investments for 5+ years, you need to be educated about 5 year market cycles. The same is true if you feel you won’t need to access your investments for 10+ years.
If you have more time to invest, then you should invest more in equities – despite your age or what silly outdated investor generalities have taught investors. Ahem, how about this outdated generality; If you are 60, then this the percentage of bonds you should own. HOGWASH…what if Bonds are the worst performing asset class—or worse, what if, as in 2008, bonds were performing worse than cash? Do you want to own 60% of bonds then? The folks at CJM Wealth Advisors agree with our assertion that TIME plays a large part of your investment objectives. In a 2013 white paper, they determined that an investor has a 96% probability, with a 70/30 allocation of stocks and bonds, or returns (based on data from 1929-2011) sbetween 18% gain and a 6% losses on a 5 year rolling period. However, if you have 10 years to commit to an investment strategy, then the loss figure drops to -2.05% vs. 6% in the 5 year example.
The point is, most people can afford a 96% probability in a 5 or 10 year period of losses between 2 and 6% (and by the way, potential gains of 14-18%)—it’s the one year loss of 38% investors want to avoid. Let your best estimate of “putting your hand in the cookie jar” be your guide with respect to how much risk your portfolio should have (AKA percentage of bonds/cash) versus your age or an outdated belief that bonds will insulate you from risk. Then temper this with your “blood pressure/sleep at night” reading to achieve a more accurate investment objective customized for you.
This is only 20% of the battle, however. Once you have cemented your time horizon, you then need to “marry” your newfound investment objective outlook to an investment strategy/advisor that utilizes relative strength of asset classes. This will ensure that you will own lots of bonds when they are ranked high amongst other asset classes, and not when they are ranked low. The stale and lazy Modern Portfolio Theory (MPT) will Pie Chart you into 50% bonds if you are 50 NO MATTER HOW BONDS ARE PERFORMING (relative strength). IF were in the MPT Pie Chart in 2007 or 2008, you would have experienced large looses and still have large regrets. Don’t do it again!
The quick and dirty, according to DFA there have only been 12 instances that investors lost money, since 1926, using rolling 5 year periods, compared to 3 instances for 10 year rolling periods. Check yourself in mirror for when you actually think you will be dipping into your investments. THEN, check your advisor in the mirror for MPT or relative strength strategy. Don’t endure another 2008 with MPT.