Monday 22 June 2009
Five easy steps to check your mid-year portfolio
Many of the basic rules of investing are counterintuitive. For example, rising interest rates may be good news for those shopping for certificates of deposit and other short-term savings vehicles, but they are generally bad for bond funds. And here is another zinger: the lazy investor is often more successful than the hard-working one.
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Five easy steps to check your mid-year portfolio
Christine Benz
21 June 2009
Many of the basic rules of investing are counterintuitive. For example, rising interest rates may be good news for those shopping for certificates of deposit and other short-term savings vehicles, but they are generally bad for bond funds. And here is another zinger: the lazy investor is often more successful than the hard-working one.
If you are checking in on your portfolio holdings every day - or worse yet, throughout the day - you may be tempted to trade more than you need to.
In turn, you may run up transaction costs, and you are also more likely to chase hot-performing stocks and funds in the hope that they will continue to outperform. That can be a recipe for disaster.
Because it is possible to shoot yourself in the foot with overzealous trading, I am a big proponent of conducting a portfolio review just a few times a year - biannually or quarterly. The purpose of this portfolio check-up is to systematically troubleshoot problem spots and identify changes you may want to make as part of your rebalancing programme.
Observe the following five steps as you conduct a review of your portfolio. Take notes as you go along, because you will want to refer to them when you rebalance.
1. Make sure your asset mix is in line with your target
One of the most important determinants of whether your portfolio is positioned to meet your goals is your asset allocation - how much you hold in stocks, bonds and cash. Many stock managers are scooping up foreign stocks, so your portfolio’s overseas holdings may have increased. That is not a bad thing, but it could signal that you do not need to add more dedicated foreign-stock exposure to your portfolio. To help get a precise read on how your portfolio is currently positioned, Morningstar’s Instant X-Ray tool, which is free to all users on the Morningstar website, is a good tool to help.
However, what if you do not know how much you should have in stocks, bonds, and cash? If that is the case, check out Morningstar’s Asset Allocator tool to arrive at an assetallocation framework that makes sense given your own particular circumstances.
2. X-ray your portfolio
Once you have assessed your portfolio’s asset allocation, it is important to turn your attention to how your stock and bond holdings are positioned.
You can see stock and bond Morningstar Style Boxes that depict the investment styles of your holdings.
While you should not expect to see an even distribution of holdings in each of the nine squares, you do want to take note if the majority of your holdings are huddled in one or two regions of the style box.
Instant X-Ray also shows you how your stock holdings are dispersed across various market sectors, as well as how that positioning compares with the S&P 500 Index’s sector weightings.
As with style-box positioning, you should not get too worked up about some divergences.
But you do want to take note of very big bets - in sectors where your weighting is more than twice that of the index, for example.
Finally, you should check whether your portfolio is disproportionately skewed towards one or two individual stock holdings.
This is a good way to tell whether company stock is hogging a disproportionate share of your portfolio. As a general rule of thumb, company stock should take up less than 10 per cent of your total holdings.
3. Review your individual holdings
Once you have checked out your aggregate portfolio’s positioning, it’s time to conduct a quick check-up on each of your individual holdings. If you would like to conduct your own research on your holdings, you will need to drill down into the data. For funds, take note of any manager changes, strategy alterations, or upheaval at the fund-company level. (A lot of fund shops have changed hands over the past few years.) As you assess individual stocks, take note of price multiples and profitability trends. It is a complicated and technical procedure, but you will eventually benefit from your hard work.
4. Examine performance
It is a big mistake to focus too much on short-term performance, but your quarterly or biannual portfolio review should include a quick assessment of which of your holdings are providing the biggest boost to or are a drag on your portfolio’s overall return. It is fine to glance at year-to-date performance, but focus mostly on the longer-term numbers - each holding’s return over the past three and five years relative to that of other offerings within that same category.
Also take note of absolute returns. Which of your holdings have contributed the most - or detracted the most - from your portfolio’s bottom line? Sustained underperformance can be an indication that something is seriously amiss with one of your holdings. But assuming that your rationale for buying a stock or fund is still intact, a spate of weak returns can also provide you the opportunity to add to that holding on the cheap when you rebalance later this year.
5. Plan your next move
After you have reviewed your portfolio’s current status, it is time to plan your next move. It is not likely that you will uncover a portfolio problem you need to address right away, but you should make sure to schedule a time to rebalance your portfolio. Conventional financial-planning wisdom holds that the best time to rebalance is at the year end, with an eye on harvesting any losses to offset capital gains elsewhere in your portfolio. But if you have more time to focus at some other time of the year - say, earlier in the fourth quarter - by all means do so.
Christine Benz is Morningstar’s director of personal finance, editor of Morningstar Practical Finance and author of the Morningstar Guide to Mutual Funds
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