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The importance of Asset Allocation
We are advocates of Modern Portfolio Theory (MPT), and we believe that your overall asset allocation is the primary determinant of long-term portfolio performance. In fact, we believe that appropriate asset allocation is far more critical to investment success than individual security selection or any attempt to time the market.
Because we believe so strongly in the importance of asset allocation, we generally avoid investments that lack clearly defined philosophies, or that deviate from their objectives (referred to as style drift). Because we are skeptical of marketing timing, we tend to avoid mutual funds that concentrate in a single business sector of that rapidly change sectors.
Portfolio Optimization
We believe that mathematical optimization (MVO), is the appropriate method for designing an asset allocation model. MVO considers asset class returns, variances, and correlations in order to create a portfolio that maximizes return for any given level of risk.
As important as we believe optimization is, we also understand that portfolio management is an art as well as a science. Optimization is a valuable analytical tool, but its output must be adjusted to match your unique objectives and circumstances. Final recommendations are based on the best feasible solution.
The Importance of Time Horizon
Historically, the risk of investing in stocks and stock mutual funds has been inversely related to the investor’s holding period. Assuming a well diversified portfolio, the volatility associated with increased equity exposure decreases as the investor’s time horizon increases. Consequently, it is critical that investors define their time horizon and create a portfolio that matches it.
Because of the short-term volatility that is inherent in investing, we do not believe that an investment should be made if the time horizon is less than five-years. Money that will be required in less than five years should be placed in cash, money market funds, or high quality fixed income securities.
Risk Tolerance
Each investor’s risk tolerance is unique to that investor, and it is a significant factor that must be accounted for in the personal wealth management process. There are many investment related risks, but we believe that the most important risk that investors face is the risk of not achieving their goals.
We construct investment strategies with your objectives and risk tolerance in mind. Our effectiveness is measured by your success in attaining your goals and achieving financial peace of mind.
Tax and Expense Constraints
Taxes and expenses have an erosive impact on a portfolio, and they should be considered in every investment decision.
The goal of tax planning should be to maximize after-tax returns, not simply to minimize taxes. Our recommendations are geared towards tax-efficiency, or maximizing your after-tax returns in a manner that is consistent with your objectives.
Mutual fund expenses are essentially a hidden tax, and research indicates that a fund’s long-term returns are inversely related to its cost. We pay significant attention to a mutual fund’s expenses to minimize the impact that they have on your wealth.
Active versus Passive Investing
Because of the importance that we place in asset allocation and expense minimization, as well as compelling evidence that suggest active portfolio managers have a very difficult time beating their benchmark indexes, we tend to implement investment strategies with passively managed investments.
The choice between active and passive investment management is not necessarily an either/or decision, however, and both types of investments may be suitable for your portfolio. Relevant factors used in the determination of active versus passive strategies include your objectives, the particular asset class, the tax status of the account, and integration with your other holdings.
Investment Vehicles
For the stock portion of a portfolio, no-load mutual funds and exchange traded funds (ETF) are often the best investment vehicles. Their built in diversification and low trading costs are virtually impossible for most investors to attain with individual stocks.
The fixed income portion of a portfolio is affected by many factors, including your need for income, tax bracket, time horizon, the economic environment, and saving rate. Depending upon these factors, we may utilize no-load bond mutual funds or individual bonds.
Investing versus Speculating
Investing is a means to an end. It is a tool to assist you in meeting your financial objectives, and it should be coordinated with your goals, objectives, and constraints.
Investing is a long-term process that requires a well constructed plan, the ability to implement it, the discipline to follow it, and the flexibility to adjust the plan as your circumstances change.
Investing is not chasing returns, timing the market, or seeking the next “can’t miss” mutual fund, stock, or business sector. That is speculation.
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