Show Me the Money

Reducing portfolio fluctuation 

Many asset allocation studies illustrate that you would be wise to include real estate and various bonds in your portfolio. This will aid in reducing severe fluctuations and help keep your portfolio in more positive territories over time. It’s important to note that asset allocation seldom gives you the best returns in a given year, yet may contribute to an overall above average return over the long term. Some of the reason for this is that a well-diversified portfolio has more staying power. Having started the positive points about asset allocation, it is important to note that many asset allocation advocates equate risk as being the same as volatility. The point is that most investors don’t agree. Investors only dislike volatility when the market is going down. They are quite pleased with volatility when the markets are heading upward. In summary, asset allocation models are not perfect. They tend to try to reduce volatility and practitioners operate on the assumption that historic market information will allow them to select the appropriate allocation on investment assets for the future. Because the future is unpredictable, the allocations may not work as planned. These asset allocation programmes tend to have a cost associated with them as well, because someone has to determine the proper asset allocation mix and implement the programme. When considering a portfolio that will be managed by an asset allocation model, you may want to consider an asset management account or an individually tailored portfolio.

Keep investment fees low
Many investors focus on performance from their investments while ignoring the fees they are paying. While this may be acceptable while their investments are performing well, they should still be aware of what actual fees they are paying. Don’t expect all expenses to be explained to you in simple English. You must ask the right questions to ascertain whether you are being taken advantage of. While paying higher fund expenses or higher brokerage fees may not seem serious in the short term, the effects can be very meaningful over the long term. Simply saving one to two  percent per year in fees could translate to a much higher overall portfolio return in the long term.

The difference two percent can make over time:
$100,000 at 10 percent over 20 years = $673,000
$100,000 at 12 percent over 20 years = $965,000
2 percent over 20 years can make a difference of 43.5 percent in your rate of return!

Keep taxes low
Investors who ignore taxes may be investors who are living with a false sense of security. They may feel that they are achieving better rates of returns than they actually are. Always look at your overall return from your portfolio before tax and after tax. To keep taxes low, you should focus on individual bonds, individual stocks, unit investment trusts, and tax-efficient mutual funds. Many investors find the tax-sheltering ability of qualified plans such as profit sharing plans and retirement plans like individual retirement accounts a real benefit. If you have taken advantage of these plans and still want to defer more investment dollars, then you should check out tax-deferred annuities.

Key questions to keep in mind when reviewing your portfolio:
* Are your investment gains taxed each year or at the end of a certain time period?
* Are your gains taxed as ordinary income?
* Do you determine when you pay tax on an investment’s gain or does someone else make that determination?
* Is there a more tax-favoured way of handling your investments?

Select Investments That Offer a Margin of Safety
When creating a portfolio, investors should constantly be on the lookout for investments that offer a margin of safety. This advice is often ignored and can cause great damage to your portfolio’s returns. In addition to various risk factors, every investor should look for the right investment for themselves. Knowing your time frame for holding an investment as well as how much market volatility you can handle is crucial to your decision-making process. Assuming you have taken all the proper steps and are ready to make an investment decision, you should look to the investment choice that offers the best margin of safety. For instance, when selecting a bond investment you would look for a bond with the highest credit rating possible or with the most likelihood of returning your money for the risk taken. It simply is not necessary to risk your principal when making an investment. The adage “The greater the risk, the greater your return” is a false one. Far too many investors are taking on risk needlessly. When looking at a stock investment, you should opt for the stock that offers the most in secure growth potential. In addition, you should look for the stock of a company that has a good management team in place and is following a sound business plan. Make sure that the company you decide to invest in is in the right business and is not up against far better companies that could either take market share away from it or destroy its profit streams.

Never Panic
This is much easier said than done. Assuming you have ascertained what type of investor you are and have done your homework, you should know the following about yourself:
* What your true investment time frame is
* How the class of investments you are investing in have performed over similar market conditions or past time periods
* What your worst-case scenario is
* What your expected returns both positive and negative are
An investor should always perform a fire drill in regard to his or her portfolio. Use a historical perspective to see what the worst years in the stock market would have done to your portfolio.
Key questions that should come to mind include:
* During protracted negative markets, how long would your stocks have stayed down?
* How would a diversified portfolio of stocks invested among various size categories and investment strategies have fared?
* Is there anything you could have done to decrease these losses or to mitigate the length of any downturns in the market?
* Are you comfortable with the answers you have come up with?
* Can you create a portfolio you can live with under the most trying of circumstances?
With bonds, you should be asking yourself the following questions:
* Have you selected the highest quality bond?
* Is there something substantial backing the issuer of your bonds?
* Have you selected the proper maturity of bonds to meet your needs?

When looking at risk factors, you would be wise to seek ways of reducing or transferring as much risk as you can to others. For instance, stock investors can reduce financial risk by placing stop loss orders on various individual stocks within a brokerage account. These stop loss instructions will help ensure that your stock positions are sold out during the start of a major market downturn. Typically, investors place stop losses on an individual stock to be executed if the stock issue were to decrease by more than 10 percent. This can help to prevent even larger losses that can affect individual issues at times, regardless of what the broader stock market is doing in general. If you are holding stocks that continue to increase in value, perhaps you will want to move your stop loss instructions up with the rising stock price.
Failure to have stop loss instructions on major stock holdings is a common mistake among novice investors. Make sure you cancel your stop loss instructions on stocks that you have sold

Otherwise you could be placed in a position of having to deliver stocks you no longer own. A competent stockbroker can explain these techniques and others such as hedging. In addition to using package products such as mutual funds, you may wish to consider using vehicles such as index annuities. They allow you to participate in the appreciations of various stock indexes without taking on the downside risks. These investment vehicles are backed by the financial condition of the insurance company issuing them. Consider variable annuities if tax benefits or death benefits are a factor. Many variable annuities offer a death benefit, which basically states that your beneficiaries will receive your original investment back, plus a set amount of growth such as 3 percent or 5 percent per year as well, regardless of your account’s actual performance. Of course, if your actual account value has grown by more than the guaranteed death benefit amount, then your beneficiaries would get this higher amount. This may be another way to further reduce financial and market risk. Fixed annuities are excellent substitutes for individual bonds or bond funds. You obtain high yields in most cases without taking on financial risk. This, or course, assumes that you have selected a financially strong company with a competitive product. All of these various strategies can give you tremendous staying power. Another product worth considering is that of a managed account which provides ease of entry and exit from markets; and it is tailored to you individual needs and your tolerance for risk.