Principles of Investing

Many investors do not receive the returns they expect when taking risk. However, rather than questioning their investment methods they mistakenly blame the markets or Wall Street for this failure. We believe the following principles will allow investors to be suitably rewarded for taking market risk. Our clients have benefited from these beliefs for over two decades. If they make sense to you or to learn more please contact us.

Asset Allocation – dividing the portfolio among cash, bonds and stock – is the single most important factor in determining portfolio risk and return. The appropriate asset allocation should be determined from the facts of the investor’s own financial situation, not from a futile attempt to predict the near term profit potential of a particular asset class. Asset allocation, not market timing, is the key to successful investing.

The Holding Period on the Portfolio is the Primary Determinant of Proper Asset Allocation. Money invested for a retirement twenty years from now can be more aggressively invested than money for a college education coming up in three years. A longer time frame until the money is needed will allow the investor to aim for a higher rate of return by committing a greater percentage of the portfolio to stocks. Having time on your side will allow you to survive the inevitable and unpredictable declines in the stock market.

Stock Investing Should be Done Using Passive Investment Vehicles Such as Factor or Index Mutual Funds. They are designed to match the price action of a clearly defined risk factor or major market average (see Factor Funds versus Index Funds). These funds not only have lower costs but also fewer taxable distributions than most actively managed mutual funds. The factor funds that our clients use are generally available only to institutional investors. These funds are protected from “hot money” flowing in and out of the funds, which can be damaging to long-term performance.

Diversification is the Key to Higher Risk-Adjusted Returns. The stock side of the portfolio should be invested in a fully diversified portfolio of passively managed mutual funds. This provides a margin of safety in fluctuating markets. Some markets will be rising while others are falling. Attempting to own assets that all perform well at the same time – or attempting to be invested in stocks only during market upswings – ignores the benefits of diversification (see Diversification and Rebalancing). The portfolios we manage are diversified along three major risk factors:

  • Location (US and International)
  • Market capitalization (large and small companies)
  • Valuation (value and growth companies)

Make Portfolio Trading Decisions in Advance. This allows our clients to deal with the great enemy of proper investing – emotion. The percent of the portfolio to be invested in stocks should be held constant through market fluctuations. This rule requires buying stock as markets fall and selling as they rise. Without a plan, many investors fluctuate between fear and greed. They buy as markets rise and sell as they fall. This amounts to buying high and selling low – not a good way to make money. To ensure our clients do the opposite, we monitor their portfolios and rebalance them as required.