I often write about diversification and the benefits diversification offers to investors. Diversification is said to be the only free lunch in investing. It allows you to lower risk, without sacrificing meaningful return. The basic concept of diversification is of course intuitive. Don’t put all your eggs in one basket. And don’t invest your entire portfolio in one security—that would be too risky. You want to spread your assets among many different securities. If one goes bust you only lose a little bit instead of everything. But there is more to diversification than spreading your assets … [Read more...]
Avoid Australian Equities?
The correlation between Australian stocks and Chinese stocks is near a record high. If you are bearish on China, you probably want to avoid Australian equities. … [Read more...]
90 Million Emotions Wreak Havoc
With the market in a correction and off 10% this quarter, emotions are running high. I want you to take a minute this weekend and get your bearings. Clear your head of the emotions that hinder sound analysis and get yourself on the road to the investment success you deserve. A lesson worth remembering is that, without fail, investors tend to miss out on the market’s biggest gains, getting sucked in when the big money has already been made, and suffering from its biggest losses. I know this from studying money flows, and in part thanks to the 2010 edition of the Investment Company … [Read more...]
The Most Important Takeaway from the BP Oil Spill
The oil spill in the gulf is an economic and environmental catastrophe. BP made some serious missteps that have cost the company and gulf coast residents dearly. While tragic, there are many lessons to be learned from the spill. There will be important takeaways for everyone involved or affected by the disaster. Most obviously, the oil and gas exploration and production firms will put greater emphasis on prevention and disaster response. For investors there is one vital takeaway that must not be overlooked. Prior to the spill, BP was a global blue-chip. It was, and still is 3rd largest … [Read more...]
Simple Arithmetic Vital to Your Investment Success
My arithmetic of portfolio losses chart shows the return necessary to break even after incurring a loss. The horizontal axis shows the assumed portfolio loss incurred. The vertical axis shows the portfolio gain required to break even. My chart clearly illustrates that the bigger the loss you take, the harder it is to recover. You can recover from a small loss. If your portfolio drops 10%, you only need a gain of 11.1% to get back to even. But if your portfolio drops by 50%, you need a gain of 100% just to get back to even. And if you take a loss of 70%, you need a staggering 233% return … [Read more...]
Are Small Stocks Safer Than Large Stocks?
A recent study in Financial Analysts Journal (FAJ) found that a portfolio of small-capitalization stocks is no more risky than a portfolio of large-capitalization stocks. And if the number of stocks in a small-cap portfolio exceeds 25 or so, that portfolio may be less risky than a large-cap portfolio. The authors compare volatility in two time periods, 1963 to 1984 and 1985 to 2008. In the earlier period, a portfolio of small-cap stocks was found to be significantly more volatile than the market, even for a portfolio of 50 equally weighted names, but in the more recent period, once a small-cap … [Read more...]
Commodities Investment
Since 2005, investment in commodities futures funds has increased over 200% to an estimated $250 billion. Some of the biggest inflows to commodities futures funds have been from institutional investors—pensions, endowments, and foundations. Not by mistake, the institutional crowd moved into commodities futures just as a powerful bull market was getting under way. Institutional investors are just as susceptible to performance chasing as the average investor, but they would never admit it. The institutional crowd will instead tell you that they are investing in commodities futures funds for … [Read more...]
A Must Own Asset Class
If the last decade has taught investors anything, it is that taking greater risk does not always result in greater return. An investor who put his entire portfolio in a basket of developed-world equity markets at year-end 1999 would have earned all of 2.34% over 10 years. And to earn that 2%, this investor would have endured two of the worst bear markets in history, with peak-to-trough declines of 45% and 53%. What's more, an investment in conservative full-faith-and-credit-pledge short-term U.S. Treasuries was up 55% over the last 10 years. The 2000s were without a doubt a dismal decade … [Read more...]
Retirement Arithmetic
Are you planning an early retirement? We urge you to check out our retirement income arithmetic before you hurry off into the sunset. Let’s look at the arithmetic of a financially secure and comfortable retirement. First, we start with a portfolio balance of 50/50 stocks and bonds. A 50/50 mix offers a nice defense against down years and dampens your overall portfolio volatility. Next we make some return assumptions. Our long-term return expectation for stocks is 8.8%. If you’re still using historical returns of 10%+ you’re going to be sorely disappointed. Our stock return assumption is … [Read more...]