Tag Archives: portfolio

Are There Dangers In Not Diversifying Your Portfolio?

Originally published on March 15, 2016 When it comes to investing, the key for most people to make money is to avoid as much risk as possible. In order to accomplish this, it’s best that all investors decide to diversify their portfolios in all possible ways. However, while it may sound simple, diversification is anything but that. However, by following a few simple rules it’s possible to diversify one’s portfolio in such a way that avoids huge losses. Just What Is Diversification? Diversifying a portfolio is just as it sounds. Rather than put all their money into a particular stock, investors should always look to invest their money in as many different avenues as available. By doing so, they greatly reduce the risk of losses occurring due to their money being tied up in only one industry. While diversification does not completely guarantee against financial losses happening, it has proven to be the most useful tactic when it comes to making a person’s money grow. Various Types of Risk When investing in stocks , bonds, or other financial instruments, there is always a certain level of risk involved with the venture. However, by having a good understanding of these risks, investors greatly increase their chances of minimizing losses or having none at all. There are two major types of diversification, which are known as diversifiable and non-diversifiable. Non-diversifiable risk is that which is associated with any type of company or industry, such as inflation, cost-of-living, and political instability. This is considered the type of risk that cannot be avoided, so it must be weighed in relation to other risks as to how it will affect a portfolio. However, diversifiable risk is directly tied to an industry, company, or even a particular country. To avoid having issues due to this type of risk, investors should have various assets within their portfolios that all have different reactions to the same situation, which in turn will lead to a safer investment strategy. Be Open to New Strategies One of the biggest mistakes many investors make is having tunnel vision when it comes to their investing strategies. When this happens, they often experience larger losses in their portfolios than other people who have spread their money around to many different places. Not only should a person not invest solely in one company, but they should also be careful not to invest in companies or industries that have a strong correlation to one another. If this happens, the likelihood of losses increases substantially. Opposites Attract Not only do opposites attract when it comes to love, but to diversifying as well. Along with being open to new strategies, it’s also advantageous for investors to look for various asset classes that tend to move in opposite directions. A great example of this is stocks and bonds, which while related tend to go in opposite directions almost daily. This allows them to offset the unpleasant moves of one asset class with the positive ones of another, which over time will keep a portfolio far less vulnerable to market swings. As a general rule, investors who are just beginning to put together their portfolios are almost always advised to include bonds, which tend to offset any losses sustained with stocks. There Are No Guarantees While diversifying a portfolio does not automatically guarantee investment success, it has been shown to increase the likelihood of positive returns over time. However, it’s important to note that even if your portfolio is correctly diversified, some risk can never be eliminated . This is where we talk about over diversification. This is a big problem that big investors, and experts warn others about, because it has the potential to undo all your efforts. It’s common consensus that wide diversification within your portfolio can cause investing to be more confusing than it normally would be, since you have so many eggs in so many baskets. Understanding that there is a point at which the benefits of diversification stop reducing risk, and instead start eating away at investment returns is crucial, otherwise, you’re just stuck with a hodgepodge mess of a portfolio. When it comes to reaching one’s financial goals, virtually every investor has their own set of unique plans. Most financial planners agree that investors who don’t let themselves get too high or too low depending on the market conditions will always do best, while others who invest too heavily in one direction often run into problems. By taking diversification seriously and taking the time to learn about the benefits associated with it, investment success can be had. This guest article was written and provided by Accuplan Benefits Services, a self-directed IRA administrator.

VIX: A Hedge To Consider For Your Portfolio

It is not uncommon to see the markets follow irrational trends. Sometimes, the markets will climb up or drop down on information that may indicate contrary trends. This past month I’ve been watching the markets with immense caution; I was a little surprised that we have seen US stocks rise for a fifth straight week. For the long run, I have a handful of stocks I think will grow exceptionally, but for the most part I believe we are entering a bear market, and I have thus prepared myself with hedges. The headlines, and the data and statistics that are coming in from Central banks and governments across the world are not exactly signaling optimism for the markets, yet the markets are trending towards all-time highs. ^SPX data by YCharts I think it’s absurd that the S&P 500 is approaching all-time highs, especially at a time like this. I will not go in depth as to why I think we are due for a major correction (again), but I will simply write a basic summary about why we are likely going to continue falling into a bear market, and about why investing in the VIX index might be smart. The reasons for a bear market heavily outweigh the reasons for a bull market right now. Commodities have staged an odd recovery the past couple of weeks that hasn’t exactly made much sense. Most importantly right now is the prices of oil; oil has proved to be latched on to the movement of stocks and vice versa. Brent Crude Oil Spot Price data by YCharts Brent crude oil has spiked over $10 USD in less than a couple months, but why? The world oil supply has remained at roughly 98 mb/d the past couple of months and demand has also been idle. I firmly believe oil will stage a recovery, but this recovery seems fake and is happening way too fast, which is alarming. In addition to the suspicious rise in commodity prices, there is tons of debt everywhere. People are getting crushed by margin calls, people are still accumulating debt, and energy companies are on the brink of bankruptcies. Banks are also having a hard time. Many major banks are hitting 52-week lows, although they have recovered slightly; but that point aside, they are still going to have to deal with lower interest rates. Nations around the world are following a general trend of lowering interest rates, even into the negative and this will likely hurt major bank stocks. Banks have also proven to be central to market crashes in recent history. It was a little surprising to see the markets react so positively to the Fed’s latest press release. Yellen gave the people a lot of “ifs” and “buts” and “maybes”, and I feel it did not justify the market spike we have just seen. On top of all this, we are seeing a ton of political turmoil, which inevitably affects the markets. There are a lot of problems right now in the world: Brazil is on the brink of a political and economic collapse, Europe is dealing with the refugee crisis which in turn is giving right wing groups serious power and support, Brexit is a serious possibility and would have potential consequences on markets worldwide (and in my personal opinion the Brexit would negatively impact the world markets), and then there’s the Middle East tension. I don’t want this article to be a sensationalist piece, but there are a lot of similarities between what is going on right now and the 1930s. Basically, I believe we are in for a roller coaster ride, and if there are people out there who are long on the markets as a whole, maybe a hedge or two would greatly benefit your portfolio. The VIX index The VIX is an index that uses options to predict stock market volatility, and it is commonly referred to as the fear gauge. ^VIX data by YCharts As you can see from the chart we have had numerous spikes in a short span of time. The last time we’ve seen this type of market volatility was in 2011, and I believe this time there is potential for the volatility to be even greater. Depending what market one invests in, it is entirely possible to put some money in an index that tracks the movement of the VIX. When the time comes for the market to crash, one’s portfolio will be protected with a hedge in the VIX, but this is definitely a highly risky trade. For example, Canadians, or those who invest in the TSX can invest in HVU. As I write this article the VIX is approaching lows it hasn’t seen since early 2015, but I believe the market volatility has just begun. Catching the bottom of the VIX and riding it up during a major spike could be very profitable, but once again this is to be used as a swing trade, and the ETF should not be held for more than a couple of weeks at most. Generally, I want readers to tread with caution in this current market environment. Everything seems off, and the markets are being irrational at the moment, thus a crash or a longer bear market might be in store for us. Hedging your portfolio is important, and remember to do your own research. Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.

Fixed Income – Now Is Not The Time

The Seeking Alpha ETF Investing Guide I recently reviewed the Seeking Alpha Investing Guide and decided to allocate part of my portfolio to a core portfolio of ETFs, similar to that suggested by the guide. I do not intend to completely switch course from my current allocation but to set up a separate core portfolio of ETFs and to allocate a majority of my investments to this Core ETF portfolio over time. After reviewing the investing guide, I drafted a procedure for implementing the suggestions of the guide. Currently, I am reviewing each of the suggested ETFs to determine which to buy. Readers that have read the articles on the first five recommended ETFs are aware that I plan to invest in the sectors that they represent. This article focuses on the three recommended ETFs from the fixed income portion of the Core ETF portfolio: iShares iBoxx $ Investment Grade Corporate Bond ETF (NYSEARCA: LQD ) PowerShares 1-30 Laddered Treasury Portfolio ETF (NYSEARCA: PLW ) Schwab U.S. TIPS ETF (NYSEARCA: SCHP ) At this point, I am not inclined to invest in these ETFs, or the fixed income sectors these represent. I expect to keep funds I have allocated for this portion of my portfolio, invested in shorter-term bank certificates of deposit (cd’s) that offer similar interest rates with what I believe is far less risk of capital loss. Investment synopsis of the three fixed income funds The iShares iBoxx $ Investment Grade Corporate Bond ETF seeks to track the investment results of an index composed of U.S. dollar-denominated, investment grade corporate bonds. LQD provides exposure to a broad range of over 1000 U.S. investment grade corporate bonds. LQD can be used by investors seeking stability and income. The PowerShares 1-30 Laddered Treasury Portfolio is based on the Ryan/NASDAQ U.S. 1-30 Year Treasury Laddered Index. The Fund will normally invest at least 90% of its total assets in securities that comprise the Index. The Index measures the potential returns of the U.S. Treasury yield curve based on approximately 30 equally weighted U.S. Treasury issues with fixed coupons, scheduled to mature in a proportional, annual sequential (“laddered”) structure. The Schwab U.S. TIPS ETF goal is to track as closely as possible, before fees and expenses, the price and yield performance of the Barclays U.S. Treasury Inflation Protected Securities (( OTC:TIPS )) Index (Series L). SCHP provides a convenient, low-cost way to capture the performance of U.S. Treasury Inflation Protected Securities. SCHP provides exposure to a portfolio of treasury securities designed to offer protection from the negative impact of inflation while assuming exposure to interest rate risk. US treasury 10 year interest rate chart – 1962 to present Click to enlarge Source: Yahoo Finance (2/13/2016) The chart above shows US treasury 10 year interest rates since 1962. After peaking in 1981, interest rates have fallen steadily to their current rate of 1.75%. Interest rates were slightly lower for a short period in 2012 but other than that, they are at the lowest point over the 50 plus years shown. While I have felt the same way for some time, as interest rates have continued to fall, I would not be comfortable investing in medium or long-term bonds at current interest rates. In the past, I have found that when I make investments that I am not comfortable with, I have a very hard time holding them. Performance of LQD, PLW and SCHP compared to the S&P 500 since June 2002 Click to enlarge Source: Yahoo Finance (2/13/2016) The chart above shows the performance of the three fixed income ETFs versus the S&P 500. LQD had the longest history going back to 2002 and over this time is up 11% versus the S&P up 103%. The chart does not include interest or dividends, which would improve the relative performance of the fixed income ETFs versus the S&P 500. Performance of LQD, PLW and SCHP compared to the S&P 500 – 5 year chart Click to enlarge Source: Yahoo Finance (2/13/2016) The chart above shows the performance of the three fixed income ETFs versus the S&P 500 over the last five years. Again the S&P 500 has outperformed the 3 fixed income ETFs and again this chart does not include interest or dividends, which would improve the relative performance of the fixed income ETFs versus the S&P 500. ETFs in the US corporate bond category ETFs in the US treasury bond broad duration category ETFs in the US treasury inflation protected category Source: Seeking Alpha (as of 2/13/2016) Above are lists of the top 10 fixed income ETFs in each of the categories represented by the three recommended ETFs. Each category is listed by assets under management (AUM). As the tables show, there are a number of alternatives that interested investors can consider in each category, except the “treasury bond broad duration” category which only lists 2 ETFs on Seeking Alpha’s ETF Hub. Fund characteristics iShares iBoxx $ Investment Grade Corporate Bond ETF PowerShares 1-30 Laddered Treasury Portfolio ETF Schwab U.S. TIPS ETF Weighted average duration (years) 7.98 10.34 7.5 Weighted average maturity (years) 12.28 15.84 8.3 SEC yield (%) 3.73 2.49 0.02 Expense ratio (%) 0.15 0.25 0.07 Source: iShares by BlackRock, Powershares and Schwab (as of 12/31/2015) The fund characteristics are shown in the table above. I consider these characteristics versus a bank certificate of deposit (cd). Bankrate.com currently shows a one year cd at 1.30% and a five year cd at 2.27%. I do not feel that the potential yield improvement justifies the additional risk associated with the additional time to maturity, duration and the default risk of the corporate bonds. Other investors may be in a different position and see this differently. Conclusion Readers that have read the articles reviewing the first five recommended ETFs from Seeking Alpha’s ETF Investment Guide are aware that I plan to invest in the sectors that these ETFs represent, either in the recommended ETF or a very similar ETF. I do not feel the same way about the recommended fixed income ETFs, iShares iBoxx $ Investment Grade Corporate Bond ETF, PowerShares 1-30 Laddered Treasury Portfolio ETF and Schwab U.S. TIPS ETF. After peaking in 1981, US ten year treasury bond interest rates have fallen steadily to their current rate of 1.75%. Although others may feel differently, I would not be comfortable investing in ETFs made up of medium or long-term bonds at current interest rates. In the past, I have found that when I make investments that I am not comfortable with, I have a very hard time holding them. At this point, I am not inclined to invest in the three recommended fixed income sectors or ETFs: iShares iBoxx $ Investment Grade Corporate Bond ETF PowerShares 1-30 Laddered Treasury Portfolio ETF Schwab U.S. TIPS ETF I expect to keep funds I have allocated for this portion of my core ETF portfolio, invested in shorter-term bank certificates of deposit (cd’s) that offer similar interest rates with what I believe is far less risk of capital loss. I expect to review this periodically and consider investing in these ETFs and sectors when long-term interest rates have increased from current levels. Addendum Seeking Alpha’s Investment Guide Core ETF Portfolio ETF Ticker Fund Name Fund Description Expense Ratio VOO Vanguard S&P 500 ETF Large cap US stocks 0.05% IJH iShares Core S&P Mid Cap ETF Mid cap US stocks 0.12% VTWO Vanguard Russell 2000 ETF Small cap US stocks 0.15% IEFA iShares Core MSCI EAFE ETF Multi cap foreign developed market stocks 0.12% IEMG iShares Core MSCI Emerging Markets ETF Multi cap emerging market stocks 0.18% LQD iShares iBoxx $ Investment Grade Corporate Bond ETF US investment grade corporate bonds 0.15% PLW PowerShares 1-30 Laddered Treasury Portfolio ETF US Treasuries 0.25% SCHP Schwab U.S. TIPS ETF US TIPS 0.07% VNQ Vanguard REIT Index ETF US REITs 0.10% DBC PowerShares DB Commodity Index Tracking ETF Broad commodities 0.85% Simply Investing – Philosophy Establishing a core portfolio in well-diversified, low expense ETFs, held for the long term, is a good idea for most all investors. The core of a small portfolio can start off as simple as one well diversified global ETF with a low expense ratio, like Vanguard Total World Stock ETF (NYSEARCA: VT ). Typically, as the portfolio grows, the core of the portfolio would include exposure to the ten asset classes listed above. There are four steps needed to set up an efficient investment plan. The decisions and actions required to set up the plan and purchase the ETFs can be done in about 4 hours (see the further reading section below for more details): Decide on an asset allocation plan among the ETFs in the core portfolio. Open an online brokerage account with a linked online bank account. Determine if you will invest all your investment funds at once or over a period of time. Determine which investments to buy in your taxable and tax deferred accounts. The core ETF portfolio outlined above, after tax, should significantly outperform either individual stock picking or a portfolio managed by a financial advisor. Over the typical investors time horizon of 40+ years, the expected advantage of this core ETF portfolio is staggering. Investors that enjoy the investment analysis process and are willing to spend the time to analyze and invest in individual stocks or sectors can still do this. I believe, the majority of these investors should still set up a core ETF portfolio, but can allocate a small, fixed percentage of their portfolio to “edge” positions, which offer additional risk and opportunity. Further reading ETF Investing Guide – Written by Seeking Alpha’s Founder in 2006 is a great guide for setting up a portfolio of ETFs. Set Up A Core ETF Portfolio Now – Describes the four steps required to implement the suggestions in the ETF Investing Guide. The ETF Investing Guide is made up of 54 articles and takes some time to read and assimilate the information. This article condenses the information from the guide down to four steps that can be completed to set up a core ETF portfolio in around four hours. Disclosure: I am/we are long VT. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article. Editor’s Note: This article covers one or more stocks trading at less than $1 per share and/or with less than a $100 million market cap. Please be aware of the risks associated with these stocks.