Warning! – Asset Allocation & Pie Chart Investing Doesn’t Work!!!! They All Laughed When I Told Them To Stop Using A Common Investing Strategy….Until They Saw The Results!!
All the so called ‘experts” (including most Financial Advisors & stock brokers) tell you to “rebalance” your investments. Periodically buying and selling stocks, bonds and mutual funds to return your investment account to its original “allocation”. What these ‘experts’ are really telling you is that they don’t know which areas of your account are likely to outperform or under perform, and they don’t want to know. In fact, they’re going to eliminate most of your profit potential because anything that goes up in value over the next six months will be “re-balanced” right back to its original weighting.
Most so called ‘experts’ aren’t trained to effectively manage investments tactically, and may in fact do just as well for their clients by simply re-balancing every few months. Personally, I think it’s a shame that this is how most people in our business think they can justify their fee!
I mean, really, can you imagine the football coach who goes over to his quarterback and says, “Whoa, you’re throwing an awful lot of touchdown passes over there to the right, how about a few short ones to the left for a little balance?!?”
Rebalancing can actually hurt your accounts performance over time, as it perpetually adds money to investments that are producing poor results! While at the same time taking money away from investments that are producing profits. Where’s the logic to this?
The iShares.com website allows you to replicate the performance of an account over time if allocated a particular way and rebalanced at certain time frames. Below is an industry standard “typical” asset allocation ‘pie’ we ran through their allocation illustrator:
Starting with an account of $100,000 in December 1999, and then rebalancing semi-annually since, the account would be worth $130,286.78 on December 2005. However, taking the same allocation and not rebalancing over that time resulted in an ending account value of $131,459.61. Re-balancing actually cost you $1,172.83! And for this you pay an Advisor or Money Manager?? I don’t think so! Rebalancing is not some magical path to great returns or steady growth, there are times when it hurts growth. Our Supply & Demand investment system recognized that small company stocks have been in favor vs. large company stocks since Feb. 2000, 6 years ago! And that Latin America & Emerging Market stocks were in greater demand than the EAFE (Europe, Australia, Far East) Index The difference between re-balancing, or not, since the end of 1999 seems pretty small when you compare that to the impact that one well-timed tactical decision had. Let’s say we allocated along these lines for that same 6 year period:
The changes we made were to overweight smallcap stocks and underweight large cap stocks. And overweight Latin America & Emerging Markets and avoid EAFE. The results?
A semi-annual re-balancing approach would take the initial account of $100,000 to an asset base of $162,009.44 by the end of 2005, while the unmanaged account grew to $161,546.83.
Rebalancing added almost no value to the end result, a measly $462.61!
Knowing when to overweight small company and international stocks… Made An Extra $30,087.22!
Can you imagine what would happen if you managed a business in the same way that traditional ‘pie chart’ asset allocation would have you do? Let’s say that you run a Golf ProShop and Titleist golf balls are outselling Maxfli’s 2 to 1. Would you rebalance your inventory so that you spent more money increasing your inventory in Maxfli’s and reducing your Titleist inventory? What kind of results would you expect from that? In the investment process, staying pro-active means remaining aware of the environment you are operating in. The best way to do that is with a supply & demand (relative strength) investment system. Like what we use.
It measures the market environment today, instead of where it has been historically. Following a dynamic system like this keeps us in harmony with the market. That is, we listen to the supply & demand numbers (not some psychobabble analyst), which takes the pulse of the market, and we allocate your account according to the developing supply & demand (relative strength) picture that is unfolding. Instead of choosing two arbitrary times a year to “rebalance” your account, we look to simply keep our eye on what inventory is flying off the shelves. Then simply keeping money invested in those areas that show above average demand, and avoid those areas that show below average demand
Note: It’s the concept of supply & demand (relative strength) investing that you need to know about. Do not invest according to the allocation examples above. The financial markets will have probably changed since this book was published making the allocation examples above outdated.
