In today's post I am going to try to explain my long term plan for rebalancing my portfolio. I find it easier (financially) to have things planned out, so that even when my portfolio runs hot (or cold) if I stick by the rules that are decided long beforehand everything will work out well in the long run.
Rebalancing your portfolio (in my case) is just making sure that I have a certain percentage in each asset class. In my simple portfolio, I have two asset classes: stocks and bonds. Stocks would be considered to be the more risky asset (as those who have had money in the stock market lately would agree with me) and bonds would be considered to be more conservative.
One of the old financial sayings is the 90 minus your age rule. That is, the percentage of your portfolio that should be in stocks is 90 minus your age. I am currently 31, so that should mean that I have 59% stocks and 41% bonds. This is far too conservative for me, so I decided to make my own splits that will become more conservative over time, allow me to reap the gains of the stock market (regardless of my age) and even in the case of an economic down turn (if one hits 20 years from now when I am planning to retire) I will still be able to retire when I want.
My basic rebalancing act is this. Each paycheque I deposit 90-95% of my investment money into stocks and 5-10% into bonds. The reason for this is that in the long term, I believe that there will always be money to be made in the stock market. When the Toronto Stock Exchange hits a two-year high (that is, the highest value in the last two years), I will rebalance by portfolio to a 50-50 split of stocks and bonds. My doing this, I will still have money in the stock side of my portfolio, but I have claimed a lot of the profits along the way.
Will this be maximizing my profits along the way? Probably not. If the stock market were to rise nonstop for 5 or 6 years (pretty much from 2002-2008) I would not have as much money in this scenario as if I had all my money invested in the stock market. But, I will be less affected by a 10% drop in the market in one year, as I have taken a lot of my profits along the way. All investment books that I read say that you should be buying when people are selling (obtaining stocks when the prices are low) and selling when others are buying (selling stocks in a hot market). This plan will allow me to keep money in the market always, and minimize my chances of risk in the long term (as the money will tend towards 50% stocks and 50% bonds).
Showing posts with label portfolio. Show all posts
Showing posts with label portfolio. Show all posts
Sunday, October 4, 2009
Wednesday, August 26, 2009
Investing Theory
I'd like to discuss today an investing theory that I was discussing the other day that will guarantee conservative growth over time. It is based on the theory that most of your portfolio should be conservative with a small percentage (some say 5%) in something aggressive.
The theory behind this is that all of your deposits should be in something safe, be it a bond fund or a GIC or something with guaranteed growth. At the end of the year, any profits that you have made on this investment will be put into something more aggressive, even if it is just a Canadian Index fund.
Let's use a few numbers to get an idea. Assume that your GIC earns 5% per year and that you deposit $10,000 into it each year.
After 1 year: $10,000 in your GIC, earning $500 interest. This $500 gets put into your more aggressive fund.
After 2 years: $20,000 in your GIC, earning $1000 interest. This $1000 gets put into your more aggressive fund, making $1500 total.
After 3 years: $30,000 in your GIC, earning $1500 interest. This $1500 gets put into your more aggressive fund, making $3000 total.
...
After 10 years: $100,000 in your GIC, earning $5000 interest. This $5000 gets put into your more aggressive fund, making $27500 total.
Of course, the more aggressive fund can fluctuate making that $27500 total be able to go up or down with ease. As well, the initial deposits doesn't just have to be into a GIC, you could do 75% conservative deposits, 25% aggressive deposits, with still the interest earned on your conservative investment going into the aggressive investment.
There is one fundamental problem I have with this investment style, and that is that it gets *less* conservative as time goes on. If I have been saving for 20 years, I want to make my portfolio potentially more aggressive when I am younger (to maximize growth) and less aggressive as time goes on. This does the opposite. In this guaranteed system though, there is no potential for loss as you are only "gambling" (if you want to call investing a gamble) with your interest gained.
The theory behind this is that all of your deposits should be in something safe, be it a bond fund or a GIC or something with guaranteed growth. At the end of the year, any profits that you have made on this investment will be put into something more aggressive, even if it is just a Canadian Index fund.
Let's use a few numbers to get an idea. Assume that your GIC earns 5% per year and that you deposit $10,000 into it each year.
After 1 year: $10,000 in your GIC, earning $500 interest. This $500 gets put into your more aggressive fund.
After 2 years: $20,000 in your GIC, earning $1000 interest. This $1000 gets put into your more aggressive fund, making $1500 total.
After 3 years: $30,000 in your GIC, earning $1500 interest. This $1500 gets put into your more aggressive fund, making $3000 total.
...
After 10 years: $100,000 in your GIC, earning $5000 interest. This $5000 gets put into your more aggressive fund, making $27500 total.
Of course, the more aggressive fund can fluctuate making that $27500 total be able to go up or down with ease. As well, the initial deposits doesn't just have to be into a GIC, you could do 75% conservative deposits, 25% aggressive deposits, with still the interest earned on your conservative investment going into the aggressive investment.
There is one fundamental problem I have with this investment style, and that is that it gets *less* conservative as time goes on. If I have been saving for 20 years, I want to make my portfolio potentially more aggressive when I am younger (to maximize growth) and less aggressive as time goes on. This does the opposite. In this guaranteed system though, there is no potential for loss as you are only "gambling" (if you want to call investing a gamble) with your interest gained.
Monday, July 20, 2009
My Current Investment Vision...
This post will be concerned with my current short term plan for my investments. My suggestions to anyone getting started with investing will be to make it as boring as possible. The first $10,000 that someone has should go into basic index funds. An index fund models the ups and downs of the stock market and is the cheapest kind of mutual fund to purchase. Historically, there have been far more ups in the stock market (I believe an average growth of about 12% over the last 100 years) and in the long term equities have beaten every other investment so that is my suggestion.
The other options are to go for a bond index fund (which I am in) or some other kind of fixed investment. There are many theories on how these should be balanced, but a popular one is 90% - your age in equities and the rest in bonds. For example, if I am 31 (which I am), I would have (90 - 31) = 59% in equities and 41% in fixed investments. The idea behind this is that your portfolio will be less risky as time goes on. Others use the 100 - your age. Either way this will make your portfolio more protected as time goes on. Others say that about 5-10% of your investments should be in "fun" things: penny stocks, or individual stocks or things that are more risky that you can tell your friends about over lunch or at the golf course. These things are risky for a reason though, so only a small percentage of your investments should be in here (if any).
My current theory will be this: use dollar cost averaging (regular deposits that average out the highs and lows of investing) of 90% TSX index funds and 10% bond index funds. Once the TSX gets to a two year high, I will balance my assets so that 50% are in TSX Index and 50% are in bond index. I will continue to always deposit 90% in the Canadian Index and 10% in the bond index, but by rebalancing when the TSX is at a relative high, I will have collected my long term gains.
The idea behind this is to take your money out of the market when the stock market is at a relative high, and then when it drops (as in the last two years), less of your money will be in it. I consider that bonds are a relatively safe positive investment, so that is why the other half will be in that (it could really be in any fixed investment).
I haven't worked out all the numbers yet, but I consider that a high in the stock market over the last two years is enough to pull some money out to keep my gains, and that a 50-50 split is safe enough in the long term. Maybe as time goes on, I will go to a 90-age split as described above (to be more conservative).
Feel free to leave a comment about the validity of this investment strategy. By having a plan in place, I feel that all emotion will be taken out of it. It is difficult to sell when the market is moving in the right direction, but by having a plan in place it should be easier.
The other options are to go for a bond index fund (which I am in) or some other kind of fixed investment. There are many theories on how these should be balanced, but a popular one is 90% - your age in equities and the rest in bonds. For example, if I am 31 (which I am), I would have (90 - 31) = 59% in equities and 41% in fixed investments. The idea behind this is that your portfolio will be less risky as time goes on. Others use the 100 - your age. Either way this will make your portfolio more protected as time goes on. Others say that about 5-10% of your investments should be in "fun" things: penny stocks, or individual stocks or things that are more risky that you can tell your friends about over lunch or at the golf course. These things are risky for a reason though, so only a small percentage of your investments should be in here (if any).
My current theory will be this: use dollar cost averaging (regular deposits that average out the highs and lows of investing) of 90% TSX index funds and 10% bond index funds. Once the TSX gets to a two year high, I will balance my assets so that 50% are in TSX Index and 50% are in bond index. I will continue to always deposit 90% in the Canadian Index and 10% in the bond index, but by rebalancing when the TSX is at a relative high, I will have collected my long term gains.
The idea behind this is to take your money out of the market when the stock market is at a relative high, and then when it drops (as in the last two years), less of your money will be in it. I consider that bonds are a relatively safe positive investment, so that is why the other half will be in that (it could really be in any fixed investment).
I haven't worked out all the numbers yet, but I consider that a high in the stock market over the last two years is enough to pull some money out to keep my gains, and that a 50-50 split is safe enough in the long term. Maybe as time goes on, I will go to a 90-age split as described above (to be more conservative).
Feel free to leave a comment about the validity of this investment strategy. By having a plan in place, I feel that all emotion will be taken out of it. It is difficult to sell when the market is moving in the right direction, but by having a plan in place it should be easier.
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