Think Diversification. Think Simplicity. Think.
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I am often amazed at the things people do with their own portfolios. I am not a financial advisor nor do I review other people’s portfolio’s as a “friend” on a regular basis. However, as soon a people hear that I have this blog they inevitably ask me questions. And honestly, 9 times out of 10 I am amazed by what people have done in their portfolios.[ad#tdg-embedded]
As an example, one individual I was speaking with the other day is a highly educated professional working in a crazy high paying job with the responsibility for a high number of employees. To get to this level you need to be pretty smart. However, during a cup of coffee he told me what he had in his portfolio, which was low six figures. Here is a summary of what I can remember him telling me:
1. 5 U.S. banking stocks (approx 35% of his account)
2. 1 high yield bond mutual fund (approx 10% of his account)
3. A precious metals mutual fund (approx 25% of his account)
4. An emerging market mutual fund (Approx 30% of his account)
I kid you not. He had a really bad year last year when the market was tanking. The way I see it, he has a couple of different problems here. First, he is very undiversified. Holding only 5 stocks would be permissible if it were a small part of an well balanced asset allocation. Lots of company specific risk here. Second, high yield bond funds are not a fixed income alternative. They are very risky and do not offer the protection short-term government bonds have. Third, over 55% of his portfolio is in two of the riskiest asset classes available – precious metals and emerging markets. Fourth, there is only emerging markets and no broader diversification. Fifth, he is using mutual funds instead of index funds, which I am sure are more expensive.
I will stop there as I think you get the point. This is just plain stupid and goes against all common sense. Even the most uneducated investor would have to know that this is a bad portfolio right? Perhaps I am being too hopeful and naive as I am so passionate about investing. However , I still think that if this individual used some of his energy thinking about this portfolio for just a couple of minutes he would understand the issues here.
Investing is not rocket science. It does not take advanced degrees in finance or any other discipline to do it well. Most importantly, it just takes some common sense when putting a portfolio together. Think Diversification. Think Simplicity. Think.
This article originally appeared on The DIV-Net
11 Comments on this post
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ObliviousInvestor said:
“Even the most uneducated investor would have to know that this is a bad portfolio right?”
My honest answer is “not at all.” I suspect that most people would catch on to the problem with the 5 banking stocks. But I have serious doubts that the average investor would be able to pick up on the other problems.
One of the biggest things I learned while working as a financial advisor is that the average investor knows far less than I initially expected. Example: One of the things I found myself explaining most frequently is that an IRA is a type of account, not an investment.
June 3rd, 2009 at 5:40 am -
Dividend Growth Investor said:
Actually to me both the muni bonds and the bank stocks look riskier than the emerging market and precious metals portfolios.
He probably thought that 5 financial stocks made him diversified.June 3rd, 2009 at 5:59 am -
Rhianni32 said:
We all have our areas of expertise. If we didnt there would be no need for financial blogs
The financial experts in news articles and that have their 10 minute spots on financial shows all spout out the word “diversify” but not many will go into great detail what that means.
At face value your friend is diversified. He has some international, some hedging with metals, some bonds, and multiple different companies. Now I totally agree with you that he is not really diversified.Oblivious Investor: Though I am no financial advisor, I get the same exact comment about IRAs when talking with friends.
June 3rd, 2009 at 6:33 am -
Manshu said:
Everyone had a bad last year and even people who thought they were well diversified had a bad year. The reason for that is that when things go down — they go down all at once. The beta for everything is so close to 1 that to diversify against big falls — you should either be in cash or be short on the market.
June 4th, 2009 at 10:06 am -
handworn said:
I think building wealth has more to do with one’s own habits, like living inexpensively or reinvesting dividends, than anything else. This doesn’t say how old the guy is or how long he has been investing, but low six figures seems a little low for how much you say he makes, which makes me think he may not be as frugal as he should be.
This guy isn’t very diversified, that’s true, but more importantly he’s invested in a way that makes it appear as though what he wants most is to have to think as little as possible about his investments.
June 7th, 2009 at 7:51 pm -
Yuva said:
It has now become a habit of investing in emerging markets and i think he would have wanted to play a safer game with the markets drowning a bit.Now he would be having a second thought, i reckon.
June 8th, 2009 at 2:45 am -
Mark Wolfinger said:
There’s no doubt that this guy had a bad portfolio. It’s also true that 2008 was a bad year for diversification (which helped only a small amount).
This investor, as well as the majority of others, should consider hedging portfolios with options to guarantee that losses don’t exceed a specified level. Just like the deductible in an insurance policy.
June 9th, 2009 at 9:41 am
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