Japan Disaster -- Prevention is Better Than Cure -- How Does that Apply to Investing?
Japan will take many years to reuild the physical and psychological damage caused by the triple disaster that struck them. Who could have known? There is a very important lesson that can easily be overlooked in the rush to stop radioactive leaks and start to rebuild. Like New Orleans where the levies were known to be a problem area, Japan's nuclear reactors were living on borrowed time, having had their life extended -- just another year. The temptation to delay is very seductive until disaster strikes.
For years, we have put off retirement investments for -- just another year. Many now face and ugly repair crisis as portfolios have been blighted by the financial melt-down and they are left with a hole. The good news is that there are actions you can and must take to repair the damage and make the most of the time you have left.
Asset allocation is critical in determining risk adjusted returns from your portfolio.To make this clear, we use SIB -- Simpler Is Better -- to show the potential difference in returns between the portfolios with different numbers of asset classes.
Each of the SIBs are built from one ETF per asset class.
|LARGE BLEND||VTI||Vanguard Total Stock Market ETF|
|Foreign Large Blend||VEU||Vanguard FTSE All-World ex-US ETF|
|DIVERSIFIED EMERGING MKTS||VWO||Vanguard Emerging Markets Stock ETF|
|REAL ESTATE||VNQ||Vanguard REIT Index ETF|
|COMMODITIES BROAD BASKET||DBC||PowerShares DB Commodity Idx Trking Fund|
|Intermediate-Term Bond||BND||Vanguard Total Bond Market ETF|
So the three asset SIB has (VTI), or (SPY), (VEU) or (EFA) and (BND) or (AGG). The four asset SIB adds emerging markets (EEM) or (VWO). The five asset SIB adds Real Estate (RWR) or (VNQ). The six asset SIB adds commodities (DBC) or (GCC). These are index funds, we are not attempting to pick the best fund for each asset class but to make sure we have each asset class covered.
The three asset portfolio is old school. The world comprises the US and the rest.
Four asset classes add emerging markets which provides an equities asset class that behaves differently from US and international.
Five asset classes provides real estate trusts which moves away from equities and provides an asset that delivers dividends and is uncorrelated.
Six asset classes provides commodities which is a great hedge against inflation and also times of international stress when equities can drop sharply.
Let's now look at five year returns for each portfolio and what that would mean if these returns were applied over a decade in terms of additional money in your portfolio.
|Portfolio Name||5Yr AR||10 Yr Additional Money Compared to 3 Asset Class Portfolio|
|Six Core Asset ETF Benchmark Tactical Asset Allocation Moderate||13%||137%|
|Six Core Asset ETF Benchmark Strategic Asset Allocation Moderate||7%||34%|
|Five Core Asset ETF Benchmark Tactical Asset Allocation Moderate||10%||79%|
|Five Core Asset ETF Benchmark Strategic Asset Allocation Moderate||6%||22%|
|Four Core Asset ETF (EM) Benchmark Tactical Asset Allocation Moderate||8%||48%|
|Four Core Asset ETF (EM) Benchmark Strategic Asset Allocation Moderate||5%||22%|
|Three Core Asset ETF Benchmark Tactical Asset Allocation Moderate||4%||-|
|Three Core Asset ETF Benchmark Strategic Asset Allocation Moderate||4%||-|
Unfortunately, most portfolios in retirement plans only support three asset classes. In a study of over 800 mainly retirement plans, we noted that the majority of plans supported only three asset classes which is going to have a significant impact on the potential returns for the participant.
How can you leverage the benefits of six asset classes if your plan only supports three asset classes? If you have an IRA, overweight the missing asset class (or more) in the IRA to compensate and create a more balanced portfolio that can deliver higher returns and lower risk.
Prevention is better than cure, which we all know. Just don't leave it -- one more year -- until you get started.
MyPlanIQ does not have any business relationship with the company or companies mentioned in this article. It does not set up their retirement plans. The performance data of portfolios mentioned above are obtained through historical simulation and are hypothetical.
The following article is from one of our external contributors. It does not represent the opinion of Benzinga and has not been edited.