For many investors, the thought of reviewing their portfolios’ performance during the past year is about as appealing as having a root canal; you know it needs to be done, but you dread it. Still, it’s vital for your overall financial health to periodically review your portfolio with your financial advisor.
Besides, it may prove not to be as painful as you fear, especially if you keep the following points in mind.
Review it in the context of your overall finances. A portfolio is only one aspect of your total finances. It should not be designed to beat the market, but rather to achieve your personal
financial goals, which can mean quite different investment strategies. Consequently, if you make investment adjustments, do so because your goals or your financial circumstances have changed, not because the market winds are blowing one way or the other.
Your portfolio is not an index. The Dow, the Nasdaq and the S&P 500 indexes all have suffered double-digit declines through most 2002 – that’s on top of two previous down years. But it doesn’t necessarily mean your portfolio is down by double-digit numbers. You probably have investments that aren’t in the large-cap and high-tech stocks reflected by those indexes. Many portfolios include bonds, which have generally provided strong positive returns through this period, and cash equivalents, which have produced small positive returns during a low-inflation period.
Some investors – especially in agriculture – hold real estate, which has had strong positive returns in most areas. So, unless you’ve invested in only large-cap and high-tech stocks, you likely have winners to offset the losers.
Diversification still works. By its very design, a properly diversified portfolio will have winners and losers. That’s because the performance of a particular asset typically doesn’t have the same performance as other assets for any given market and economic condition. Of course, asset diversification cannot eliminate risks of fluctuating prices and uncertain returns.
Well-known investment expert, Roger Gibson, points to the performance of four equity category combinations: the S&P 500, international stocks, commodities and real estate to illustrate this principle. Despite the current bear market, the results confirm what Gibson has long asserted: that combinations of two or more of the investment categories have, in the long run, outperformed the performance of any single category, while at the same time reducing portfolio volatility.
Be consistent in how you use benchmarks. As noted before, investors often inappropriately judge their entire portfolio against a single-asset-category index such as the S&P 500. Furthermore, many investors not only complained when their portfolio under performed the market during the boom years, they remain dissatisfied in the down market even though their portfolio hasn’t lost as much as the market. One objective of a well-diversified portfolio is to minimize the ups and downs.
Focus on the whole, not just the bad. Part of most investors’ anxiety comes from focusing on the down numbers that they see in their individual monthly statements. Remember, don’t focus on the parts; focus on the entire portfolio during your annual review.
Concentrate on the long term. The bear market, now nearly three years old, has run deeper and longer than most. Yet, you should be investing for goals 10, 20, 30 years away (depending on your age). That’s enough time to recover from this decline and gain from the next bull market.
Rebalance if necessary. A portfolio performance review’s key purpose is to see whether you should rebalance your assets to match your intended asset allocation. Suppose for the last several years your asset allocation has been 65 percent stocks, 25 percent bonds and 10 percent cash, and for your long-term goals and risk tolerance that allocation is still appropriate. Yet in today’s market, stocks may make up significantly less than 65 percent and bonds considerably more. You will want to bring those allocations back into line either by selling some bonds and buying stocks or buying only stocks with new investment dollars. Your financial professional can help review your portfolio to see what actions might be appropriate for your situation.
Just like a root canal, putting off your annual portfolio review could hurt more in the long run than facing a little pain now.
This column is produced by Financial Planning Associates, and is provided by R. Hutton Cobb, a Wachovia Securities financial advisor, Greenville, N.C.