Saturday, May 28, 2005

Asset allocation

Asset allocation is generally defined as the allocation of an investor's portfolio among a number of "major" asset classes.
There are many asset classes that are more or less specialized. For instance:
  • Bills
  • Corporate Bonds
  • Small-Cap Stocks
  • Medium-Cap Stocks
  • Large-Cap Growth Stocks
  • Large-Cap Value Stocks
  • Mortgage-like securities
  • Commodities
  • Real-Estate investments
  • International Stocks

Here is my pre-retirement asset allocation strategy:

  • Four classes: commodities, stocks, bonds and real estate. Currently, about 65k$ invested.
  • Commodities: 8% of the portofolio, currently invested in two stocks, an oil stock and a company specialized in rare earth products
  • Real Estate: 17% invested in an Index ETF composed of a wide range of REITs
  • Bonds: 17% invested in an Index ETF covering a broad range of bonds in Canada (government and corporate)
  • Stocks: 58% invested in a mix of Index ETFs (covering Canada market, US market and International Market) and individual stocks
  • The previous target ratio will have to be balanced from time to time as some assets will grow faster than others.

I have mentionned the importance of investing frugally, that is, to limit the cost of investing, thus the ETFs. However, everytime you balance, you have to buy some securities and pay commissions. To minimize these, I will do the following:

  • 18% of my pre-tax salary is retained and invested in a wide range of mutual funds
  • About 33% of my after-tax salary is also saved and invested at first in a cash account (ING Direct, currently yields 2.4%).
  • After six months, I will transfer the cumulated amount so far (about 12k$) in a way to reach my target asset allocation. I will buy more in the asset classes that will have decreased in value that those that will have grow.
  • Inside a single asset class, I will diversify on a yearly basis, that is, I will put all the money in a single ETF the first year, the following year I may select another ETF in the same asset class. The idea is to diversify, but to minimize commissions at the same time.
  • I keep about 20% of my total portfolio for individual stocks. Most of these stocks are invested short term (less than one year)
  • Bonds and real estates, which generate income, are mainly invested in registered accounts, while stocks and commodities, which generate capital gains are unregistered, which decrease the tax burden, since 1) only 50% of capital gains are subject to taxes in Canada and 2) capital gains are taxed only when securities are sold, thus a possibility of much better compounding with long-term stocks (my long-term stocks are actually index ETFs)
  • My asset allocation strategy will change as retirement time approaches and after retirement to decrease the overall risk and have securities that yield more regular income.

Remember that diversification means:

  • Market diversification: reduce the market timing risk, that is, by investing at the wrong time. Instead of trying to time the market, it is known to be better for most people to invest blindly at predefined dates. Thus, investing every six months, whatever the market conditions, is a market diversification strategy. It is better to do that every month, but it is costlier when you invest in stocks. This is why the money is invested in mutual funds during the six months, before putting the money into individual stocks and ETFs.
  • Asset class diversification: economy follow cycles that are difficult to predict. When the commodities go well, stocks might decline and real estate stay a safe haven at the same time. By doing asset allocation, you are automatically buying more of an asset class that has been doing badly recently when you do the asset balancing.
  • Company-specific diversification. A single company can go very bad, even when market conditions are very good. Investing in mutual funds (particularly low fees index funds) and ETFs is a good way to protect yourself from such risks

Jack

Thursday, May 26, 2005

Getting rich is simpler than you think

MSN Money - Getting rich is simpler than you think: "Only three ingredients are needed: income, discipline and time. Chances are, you already have two of them, income and time. All you need to do is add the third, discipline. And armed with the following knowledge, that key third ingredient may be a lot easier to find."

For someone who'd like to retire very early, you have to have: discpline and income. Time, you don't have much, so you have to be VERY disciplined.

Good luck folks.

Tuesday, May 17, 2005

Allstate.com - Early Investing Information

Allstate.com - Early Investing Information: "And you should invest aggressively while you are still years away from retirement. This is not the time to sink your cash into a money market account or low-yield bonds. Adopting such a conservative strategy could prevent you from building adequate retirement savings. Instead, create a balanced portfolio; take risk into consideration, but lean toward buying growth investments. "

Sunday, May 15, 2005

Where to invest your money, today?

Technical analysis suggests that the "bull" stock market is coming to an end. With increasing interest rates that lower corporate earnings, the sentiment for the future of the stock market is likely to be more bearish soon. When this is going to happen, nobody knows exactly. Some experts suggest to get out of the stock market now, others think that the bull market isn't over yet.

In an attempt to make a defensive move, I have decreased my stock-exposed portfolio by about 20% recently. Now, I have to decide where I am going to put that money. I'm not sure bonds is the best choice, since the interest rates are still likely to raise in the near future (which drive bonds down). On the other hand, the money market is really sad, with ridiculous low yields.

Very tough days for investors...

Sunday, May 08, 2005

Keep your old clunker or buy a new car?

Keep your old clunker or buy a new car?

In this article, it is said that it is much cheaper to keep an old car than buying a new one, even if you have to put a new engine in your old car.

I used to plan to change my car when it will be seven years old, which will be the case in one year an a half. Now, I'm reconsidering this plan. Maybe I'm better keeping it for another four or five years. If I do so and put aside $200 a month like I'm doing now, I will have accumulated $12k in five years, a large paydown on my next car.

I remember my parents having bought a Chrysler LeBaron GTS. This model was discontinued the next year. We used to think it was a very bad choice, since the car had a bad reputation and the discontinuation. And since its resell value was so low, my parents decided to keep it as long as they could. When they finally sold it to a friend, the car was 10 years old and they put less than 3000$ in repairs during all these years.

If you consider that a new small car costs between 3500$-7000$ only accounting for depreciation, we can estimate they saved about $20k keeping their ol' LeBaron. That's a lot of saved money in five years. That might partly explain why my parents retired before 55.