How To Social Distance From 3 Worn Out Investment Concepts – Forbes

Yes, there IS such a thing in investing as “too easy”

The investment industry has a way of taking a good idea, and over-simplifying it to make a sale. Concepts like “Asset Allocation,” “diversification” and “long-term investing” are the mantras of many investors and their financial advisors. These are 3 good concepts that have been dramatically over-simplified through the years.

So, let’s review each one and you can decide how close you want to get to them. Or, if you should do the social-distancing thing with them. That is, acknowledge their value, but don’t get so close as to put your wealth in danger.

ASSET ALLOCATION

Asset Allocation is a fine concept. You invest in assets that zig and zag differently, so as to reduce the degree of fluctuation in your portfolio. That has a psychological benefit, but also gives you more ways to win over time, since you don’t get into all-or-nothing situations, like people who invest in just 3 stocks, or let it all ride on a crypto currency.

But, Asset Allocation can easily be over-simplified. And when you have your life’s savings on the line, the one who needs to be most aware of that is YOU. The classic mistake I have seen over the years is when people think that simply owning a lot of “asset classes” at the same time, you have accomplished something positive.

Pretty colors, ineffective strategy

In reality, all you have done is created a colorful asset allocation pie charts, with a rainbow of colored slices. More asset classes are not better. The reason is that in today’s markets, too many asset classes move in sync.

This is particularly the case when the market gets nasty, as was the case during the first quarter of this year. Regardless of what stock market sector, industry or theme you owned, they were all being sold off.

For most of our investment lives, when stocks fell, bonds rose. That is, to some, the simplest and easiest form of diversification. However, that only goes so far as falling interest rates. And, they have fallen for 40 years. The ability of a bond allocation to play the role has traditionally is not like it used to be.

Another way to asset-allocate

That’s why my approach to asset allocation is quite different. I prefer to allocate by “offense vs. defense” and by “owning versus renting.” That leads to creating and maintaining a portfolio in 3 segments: Core equity, hedge, and tactical. I have written about this approach here before, and will again, so let’s move on to the second social distance concept I’d like you to consider.

DIVERSIFICATION

Diversification is like a cousin to Asset Allocation. That’s because it also purports to be about reducing risk by spreading your wealth around. Diversification is an awesome concept. However, it has also been commercialized by Wall Street, to investors’ detriment.

You see, being diversified is not simply about owning a lot of securities. It is also about how much of those securities you own. And, more to the point, it is about how you mix and rotate those securities during a market cycle. Many investors have succeeded in the past by owning index funds that replicate indexes like the S&P 500.

However, owning 500 stocks is not the diversification benefit you might think. During bull markets, the winning stocks tend to dominate the index, as investors pile in to a narrowing group of past performers. This creates an illusion of diversification.

I would rather see investors look at broad markets, and make diversification about reducing sameness within their portfolio. That means understanding what is in the investments you own, and making sure you are comfortable with why you own them.

I track a list of 150 ETFs for inclusion in my ETF portfolios. Of those, 85 are what I refer to as “tactical” pieces, which represent sub-segments of the global stock market.

And, while I am not saying you must replicate that degree of research, I do believe any investor with lots of wealth on the line in the public markets owes it to herself to look a bit below the surface.

LONG-TERM INVESTING

Finally, there’s the concept of long-term investing. I will simply say that the long-term is a series of short-term time periods. That is, if you don’t understand your makeup as an investor when it comes to the roller coaster of the stock market, the worst time to find out is during a bear market.

It’s like a boxer in a 15-round match, who finds himself staring up at the sky during round 2, after taking a punch. So much for the long-term plan there.

So, don’t just give in to the concept of long-term investing. This is particularly the case if the person talking to you about it has something to gain financially from you staying fully-invested for a long time. You know, like a steady fee, which they earn on a percentage of assets.

I have no issue with asset-based compensation. In fact, I have lived it for most of my career. But the intersection of investing and lifestyle planning sometimes dictates that risk-management and tactical adjustments take precedence over the “just hang in there with all your assets” approach I hear about too often.

I think it is better to focus on the objectives you have, in real-life terms. Then, convert those to wealth goals, risk tolerance, and all of that good stuff. There is a good chance that there are several stops along the way on that long-term investing train, so to speak.

Comments provided are informational only, not individual investment advice or recommendations. Sungarden provides Advisory Services through Dynamic Wealth Advisors.

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