Asset allocation is a tool that investors can use to help reduce the risk in their portfolio. The thinking is that, as not all investment types move in the same direction at the same time, you can “cover your bets” by investing in a few different investment types to take advantage of the various moves each class can take.

I break my asset allocation into 6 different asset types:

1. Canadian Equities
2. US Equities
3. Foreign Equities
4. Trust Units
5. Fixed Income
6. Cash

If you look at the attached chart, I have a current percentage amount that I hold in each asset class as well as a goal amount. As you can see, I am way off. I will be attempting to balance this out in my future purchases.

How did I come up with this allocation? I started by deciding how much I wanted to have in equities and worked from there. I used the rough calculation of 100 minus my age (100 – 31 = 69%) as a start. I include Trust Units as an equity component as opposed to Fixed Income as it is not fixed income in the same manner as government bonds are – trusts hold much more risk. In addition, I am low on cash which will limit my ability to purchase if the market crashes.

Anyway, that is how I do it. You may do it differently. Let me know, I would love to hear your thoughts.

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In Canada, we are in the “off-season” for advertisements from investment companies selling us their investment options. However, no matter when the advertisements are on, investors need to be very careful not to get swayed by the aggressive advertising tactics of these companies. I came across a list of things that investors should keep in mind when viewing advertisements about investments. Here is the list:

1. If a fund compares itself to a benchmark, this is a good sign [if it does not…]
2. If a fund ad includes a risk measure or indicator, this is a very good sign [too rare of course]
3. Try to find out why the fund had such great performance Рa spate of hot IPOՉ۪s, a spike in the price of oil or really astute portfolio management
4. Chuckle at the images but focus on the numbers
5. DonՉ۪t be swayed by stars. In 1996, Fidelity, desperate to get a Canadian equity fund with decent performance, had wooed high profile manager Veronika Hirsh from rival AGF. She got a brand-new fund, Fidelity True North, and the defection caused a blaze of publicity because AGF had built a massive TV advertising campaign around her. But Ms. Hirsch soon parted company with Fidelity when it emerged that, while at AGF, she had invested in a junior gold stock and then bought it for her fund. She paid $140,000 to regulators to settle the case and now runs her own fund company, Hirsch Asset Management.
6. Check the dates-fund firms sometimes, inadvertently, use stale data. Base your returns on the most recent information available on several reliable web-sites such as www.morningstar.ca and www.fundlibrary.com
7. Double check the fundՉ۪s portfolio holdings; mutual fund names are notoriously misleading
8. DonՉ۪t be swayed by images of Spiderman or any super hero. They donՉ۪t really exist and anyways who knows if they really own mutual funds
9. Get a magnifying glass for any text in small font
10. Be also alert to the business media

The entire article can be found by going to this page, and entering “Analyze fund ads for clues” in the search box.

P.S. I know I said the next article was going to be about asset allocation – I liked this topic though and decided to quickly post it. Stay tuned for my thoughts on asset allocation….

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I updated my Microsoft Money file today, as I usually do once or twice a week and my portfolio has done well. The last time I updated the information on this blog was August 22nd. At that time my portfolio was valued at $33,996. Today I am showing a value of $34,489 – an increase of $493 since August 22nd. This is not all investment gain as I have contributed some money to both my pension and RSP.

As an update to my Personal Financial Strategy, I want to report that I have sold my Nissan Xterra and have bought a Mazda5. The reason for this was two fold:

1. The Xterra is a total pig on gas. With prices at around $1.10 per litre, my wife and I were paying in excess of $260 per month in fuel. With the new vehicle, the fuel economy ratings for the vehicle indicate that we will be able to cut this expense in at least half. Yes, the Xterra is that bad on gas.
2. The Xterra was getting up to 80,000km and I was worried that some major repairs were in the works. 4×4 scares me as the costs to repair anything on the drive train can be very expensive.

Given the reduction in fuel costs and the small increase in monthly payments that we will be making, we should end up ahead of the game by about $100. May not seem like much, but with a one income household, every little bit helps.

So, where do I sit in terms of progress. The chart below provides an indication of where I sit:

A pretty busy period since I last updated my progress – it is trending in the right direction though and in this type of market I am feeling pretty good. In my next post, I am going to talk about my asset allocation and my thoughts around this topic.

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Any investor, if they have been investing long enough, has made at least one dumb investment. I have made a few, that is for sure. The one that sticks out in my mine is when I purchased a small forestry micro-cap stock out of Vancouver that I heard a stock analyst talk about on a morning radio show (I can’t remember the name of the stock right now). He spoke about the prospects for the stock and how he was SURE that this stock was going up. He also spoke about relative strength and how this stock was advancing nicely.

I was young and inexperienced, so I got to work, checked out the current price of the stock, powered up my discount broker and bought 200 shares. At that time in my life, I tended to not monitor my portfolio all that often. A couple of weeks later I happened to check my account and to my surprise I saw that my investment that was a SURE thing was down 75%. I basically had lost most of my initial investment on this stock. I did a little web research and the reason the company had been going up and looking so good was that management was cooking the books. The company was recording revenue that did not exist, basically bilking investors. I got burned – I bought something based on some “expert” on the radio without doing my own due diligence. I also bought a micro-cap stock and ignored it – even if it was only for 2-weeks. Micro-caps can swing like crazy and constant monitoring them is required. I learned these lessons the hard way. The thing with dumb investments is that they are not all bad. In fact, they can be very valuable. It is through this dumb investment, and others like it, that I have learned the most about investing from. I am 100% sure that there will be more dumb investments to come in the future (hopefully not too many though) and I look forward to learning from them and adjusting my investment style to become an even more intelligent investor.

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First off, a big thank you to Chad at “Twenty Something Finance” and farhan for their comments in relation to the post on my investing principles. To provide some background to those of you who did not read the comments, their questions were concerning my rule that I avoid mutual funds in my portfolio. Farhan asked why I avoid funds since some index funds also have low MERs. Chad did not agree with me that mutual funds should be avoided, and made the case that the MERs are a small price to pay for the time fund managers spend seeking out opportunistic investments and that they have quicker access to information than the average investor. He mentioned that he has been successful (i.e. beat the benchmark) with his strategy over the past five years.

In the spirit of discussion, I would like to make a couple of points here. Farhan rightly pointed out that some mutual funds can pay very low expense ratios – specifically those mutual funds that track the indices. I think that is a great comment and I believe my statement about no mutual funds is probably too broad. My key point was that most mutual funds are too expensive for the returns they offer. I believe this article sums up the impacts of higher MERs on fund returns:

• Morningstar notes a correlation between low MERs and high rankings on its five-star fund-rating system. The average fund in the four- and five-star categories had an MER of 2.3 per cent, while three-star funds had an average 2.5 per cent MER and one- and two-star funds had an average MER of 2.78 per cent. (Source: here)
  

The point the author is trying to make is that the MER is very important in determining the quality of the fund. The higher the MER, the less likely the fund is going to be a top performer.

There are mutual funds with low MERs. In Canada, TD efunds offer low cost index funds that are pretty comparable to the iUnits ETFs. In the US, Vanguard’s Total Stock Market Index Fund Investor Shares has an expense ratio of 0.19%. These are great choices for a cost conscious investor.

In summary, my point (although poorly articulated in my original post) is that I avoid mutual funds with high MERs in favor of low cost investment alternatives because I believe that I do not get what I pay for on high MER funds. Many investors will do very well with mutual funds and will continue to do so in the future.

Thank you so much for the comments. Please feel free to do so…I look forward to hearing many different viewpoints.

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