Is Asset Allocation dead?

Following the market crash of 2008 that hit virtually every asset class, asset allocation theory has taken a beating.  Detractors claim that asset allocation – diversifying your investment dollars among a broad range of assets classes to limit exposure to big losses – no longer works because we are in different times.  The Wall Street Journal recently published an article on the failure of asset allocation as a portfolio strategy.[1]

             While it may seem like diversification did not work in 2008 and your entire portfolio went down with the market, we believe that diversification is still effective and that asset allocation remains the bedrock of successful long-term investing.

             At the heart of asset allocation theory is the concept of correlation.  Simply put, correlation is a statistical measure of how the returns of two different asset classes move relative to one another; they can move in the same direction, travel in opposite directions, or move independently (meaning there is no correlation).  Historically, certain asset classes tend to move up while other classes tend to move down and vice versa.  One example of a negative or inverse correlation would be the relationship between stocks and bonds:  when stocks do well, bonds tend not to be in favor and when stocks are out of favor, bonds tend to do better.  Investment correlations used to develop diversified portfolios are based on years of actual data and careful statistical analysis.  

             In 2008, nearly every asset class moved downward in tandem, defying long-standing historical correlations.[2]  Does this mean asset allocation has been disproven as a reliable investment theory?  We think not.  Diversification allows investors to hedge their bets in the face of an unknown and unknowable future.  Diversified investors trade some of the upside potential that might flow from a concentrated portfolio in exchange for downside protection that any one investment decision might be wrong.  Diversified portfolios may have been hit hard during this unusually broad market correction, but unlike some, diversified investors were not wiped out. 

             The 2008 market crash was extraordinary in its speed, illiquidity, and systemic nature.  Historical correlations fell by the wayside as nearly every sector experienced enormous hits.  Generally, correlations rise sharply during a financial crisis but those deviations typically are not sustainable over long periods of time.  Diversification works because correlations return to historical norms following market corrections.  Fidelity Investments recently released a report to investors on asset allocation, concluding, “Diversification didn’t fail in the recent market downturn.  It worked — just to a lesser degree.”[3]

             Winston Churchill said, “Democracy is the worst form of government, except all the others that have been tried.”  The same might be said of asset allocation theory.  Detractors suggest that asset allocation theory is flawed because the historical correlation among various asset classes has changed in the last several decades.  “The old strategies were mathematically correct and gave a sense of a lot of discipline, [but] they were too backward-looking.”[4]  If that is so, we have yet to see the data and the analysis that would bear that out.

             Before discarding a historically proven investment theory, investors would be wise to consider the alternatives are.  Asset allocation, though imperfect, is based on historical data and statistical analysis that earned a Nobel Prize for the mathematician who developed it.  It has been tested against a number of market conditions over long periods of time.  Are the new strategies being touted based on similarly rigorous analysis? 

             Market timing has not worked consistently over an extended period.  If we reject diversification, is concentration a viable alternative?   A concentrated portfolio (one which places all your investment dollars on a limited number of bets) is appealing in that it can provide enormous rewards to investors – but concentration also has the potential to wipe out an investor’s portfolio (not to mention raising his or her anxiety level).  Concentration remains a risky choice and one that can only be justified only when an investor has a very high conviction level that his or her bets will prove to be the right ones and has stop-loss strategies in place to protect against total loss on any one bet. 

             At GV Capital Management, we use a hybrid approach to investing.  Using various tools we carefully assess our clients’ objectives and income needs.  We first look at securing primary objectives such as safety of principal to a desired degree, liquidity and inflation-adjusted income by allocating investment dollars among a combination of money markets, CDs, municipal and government bonds.  We then invest the remainder in a diversified portfolio that seeks to generate total return and reduce risk by investing in a combination of carefully chosen asset classes.  We select excellent money managers who meet our exacting criteria for character, discipline, and investment acumen.  We monitor each portfolio and each manager, tracking both quantitative and qualitative measures, rebalance your portfolio as necessary, and make periodic tactical adjustments to take advantage of current market opportunities.

             To learn more about GV Financial Advisors’ asset allocation approach and investment strategies, please contact us by clicking here> 

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[1] Tom Lauricella, “Failure of a Fail-Safe Strategy Sends Investors Scrambling,” Wall Street Journal, July 10, 2009. 

[2] Ibid.  “The S&P 500 lost 37%, the MSCI index of major markets in Europe, Asia and Australia lost 45%. The MSCI emerging-markets index fell 55%. Real-estate investment trusts declined 37%, high-yield bonds lost 26% and commodities fell 37%.

[3] Ibid.

[4] Ibid.

Which is worse : Fear or Impatience ?

Despite bouncing off of the lows in the aftermath of Lehman Bankruptcy last October and the associated credit freeze that ensued, the S&P 500 and the overall domestic stock market in the US have thus far failed to build sufficient momentum to recover from the slump.

The economy lately has shown some signs of recovery but it remains to be seen if this nascent recovery has legs. Anxiety among investors is high. There is currently a lot of doubt about the future of the stock market as a long term wealth building tool.

The government is attempting to save the economy from the ravages of recession by spending enormous sums of money.  Borrowed money. The policy of increasing public debt to rescue private enterprise is disconcerting and unsustainable.

However, what action if any, should one consider for their investment portfolios under these circumstances?  When you are invested for the long term, there is a very high likelihood that you will periodically witness stock market drops of 30% or more.   The stock market valuation represents the collective wisdom of millions of individuals. Every time the stock market has previously dropped by a large percentage, these have been periods of substantial uncertainty. The reasons have varied each time; however, the fears and threats to corporate profitability in each of these instances have been very real.

Sometimes the capital markets have been able to find a solution on their own, while at other times, there has been a need for government assistance.

Using emotions to guide your financial decision making could harm long term returns. The keywords being  “long term”.  Once you have addressed your current cash flow needs and liquidity requirements for the next few years, being a patient and disciplined investor in the bond and stock markets is perhaps a better strategy for improving returns.

As someone once asked “which is worse: fear or impatience?”  It’s definitely hard to decide the worse offender of the two when it comes to building wealth over the long term.

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Ten Things I Have Learned from the Current Economic Crisis

“OK, Mr. Financial Advisor, what have you learned from all the pain we have endured over the last 18 months?” That is a question I would be asking if I were a GV Financial client.  When I asked myself that question last week, here are the ten things that quickly came to mind.

1.  The short-term performance of the market is truly unknowable. If we have learned anything in the past 12 months, the short term performance of the market is unknowable.  We have suffered the biggest economic and market decline of the past 50 years, and look at all the brilliant people who missed it:  Ben Bernanke, Warren Buffett, Henry Paulson, the CEO’s of Bank of America, Merrill Lynch, Goldman Sachs, Lehman Brothers, and Bear Stearns, countless hedge fund managers – and the list goes on and on.

2.  Investing using leverage is inherently dangerous. Bear Stearns is dead because it was leveraged 30:1.  Lehman Brothers was wiped out because of its extraordinary use of leverage.  Highly leveraged players have been destroyed because they did not have the luxury of waiting for their assets to recover.

3.  When planning for your future, create a cushion for a longer bear market than you anticipate; you never know how long the tough times will last. During the good times, we all hope (and maybe expect?) the good times will last forever.  Inevitably, the party ends and we encounter tougher times.  The truth is we don’t know when the bad times will come and we don’t know how long they will last.  If you have the financial capacity, build a larger reserve than you anticipate needing.  When the tough times come, you will have the comfort of knowing you can outlast a very long bear market.

4.  Diversification matters. During this bear market, there has been virtually no place to hide.  With the exception of government bonds, almost every asset class has taken a beating.  This broad swath of destruction has lead some to quip that diversification no longer matters.  Nothing could be further from the truth.  If you maintained a fully diversified portfolio, your investments may have been battered and bruised in the current market, but they are not dead.  Those folks who have been wiped out were not diversified.

5.  Structure your portfolio to target the rate of return you actually need to achieve your objectives. You can’t take the money with you.  Do not assume added risk and potentially gut-wrenching volatility unless you understand how the additional money will improve your life.  The risks are real, sometimes frighteningly so.

6.  The disaster is virtually always in what you do not see, not in what you anticipate. I have been a financial planner for over 20 years.  The predicted disasters du jour (Y2K, first Iraq War, etc.) is almost never what gets us.  The disasters that land the biggest blows are the ones we just don’t see coming.

7.  There are no guarantees in life. No matter how much we may want them, we are all constantly facing an uncertain future.  We may not like it, but that’s reality.

8.  In difficult economic times, True Wealth™ declines much less than financial wealth. True Wealth ™ is about more than money; it is about the resources we have to create the life we desire.  For many of us in these tough times, we have sharpened our talents, focused our time, increased our wisdom, and strengthened our networks.  Our financial wealth may be down, but if you consider the sum total of all your wealth – the lessons you have learned, the people you have connected to, and the focused effort to build upon your talents – are you really that much poorer today than you were 18 months ago?

9.  When people earn lots of money with the ability to pass the risk of loss to others, the end result is almost always bad. Whenever the game becomes “heads I win big and maybe you win” or “tails you lose big and I move on,” people game the system and take absurd amounts of risk.  We always need to avoid these types of investments.  A lack of balance between risk and reward is one reason why we at GV Capital Management have been so uncomfortable with hedge funds that use lots of leverage and charge their investors annual fees of 2% plus 20% of the profits.

10.  During times of financial stress, it is even more important to focus your True Wealth™ on what matters most to you in life. Each of us has finite resources.  In tough times, take stock of what is most important to you and focus your wealth on those priorities.  Don’t let the important things in life rob resources from your most important life priorities.

I would love to make this a collective learning experience.  If you have learned lessons over the past eighteen months that you would like to share, please email me at David@gvfinancial.com.  I will compile your responses and send out another email spreading the wisdom of our clients and friends.

About the author:

David Geller, CFP  is  the co-creator of Guided Wealth Transformation™  a revolutionary new process that helps one use not just their wealth but all of their resources to create the life that they desire and enhance the lives of people  they care about. Learn more about David>

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Life is Short

A friend of mine passed away recently in the prime of life.  Like myself, he was the dad of a college senior and a college freshman.  His daughter’s eulogy was moving and meaningful.  She reminisced about her dad’s quirks (and all us dad’s have our little quirks), how her Dad was her hero, and how important it was to tell the people in your life how much you love them every day.  After listening to this articulate poised young woman, I don’t think there was a dry eye in the house.

We have all experienced the death of a close friend, and during those times, we often comment that life is short.  Undoubtedly, that is true – the years fly by with increasing speed. Our acknowledgement that life is short is about more than the time we spend on earth.  It is also about how we choose to spend our time; how we choose to live our lives.  In those rare moments of clarity after receiving sobering news from a doctor, visiting a sick friend or attending a funeral, we understand that life is about more, much more, than work or money.  It is about the quality of our relationships with family and friends.  It is about using our God given unique ability to make a positive difference in the lives of others.  It is about learning and growing and having fun along the way.

The problem is these moments of clarity are often fleeting.  Before long, we are back to our old ways, running a million miles an hour, and not thinking about what really matters until the next sobering event occurs and we pause and comment that life is short.  Our challenge, my challenge to you, is to break this cycle – to take one small step to use your wealth to focus today on what matters most to you.

What does that mean?  It could mean spending some of your time and money to visit your parents, siblings, or an out of town friend.  It might be gathering your family together to contribute your combined talents to build a Habitat for Humanity home.  It could be as simple as taking an art class or a dancing class with your mate.  Maybe, just maybe, it means giving yourself an hour a week to pause, relax, and reflect on what matters most to you.

Help me honor my friend and his daughter.  Let me know what small step you will take to use all of your wealth and not just your money to create a richer more satisfying life.  Together we can break the cycle and start building lives that are truly worth living, and that would make my friend very happy.

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About the author:  David Geller is the co-creator of Guided Wealth Transformation™  a revolutionary new process that helps one use not just their wealth but all of their resources to create the life that they desire and enhance the lives of people  they care about. Learn more about David >. Learn more about Guided Wealth Transformation™>

Is it different this time ?

It’s different this time, yet it’s always the same. What do I mean by this?

We have suffered credit crises before.   We had one in 1998, before that in 1987. The reason behind a crisis is usually different every time we encounter one.  This time around it was the bursting of the credit bubble and the housing bubbles at almost the same time that caused the crisis. People lost faith in our banks and financial institutions pulled money out in a hurry. 

While in the middle of previous crises, a cacophony of voices and experts claimed to the effect: It’s different this time,  the future of our economy and our capital markets is doomed.  Don’t they sound similar to some of the voices that are on popular news media today?

According to research by Lubos Pastor of University of Chicago, it’s the very nature of credit markets to go through periods where investors lose their confidence and their pullback unleashes a liquidity crunch. (Hat tip : New York Times) And a credit crisis follows. Inevitably the cycle has turned in the past.

People who invested in such uncertain times were rewarded with greater than average returns for the risks they assumed. It is quite possible that we may see more of the same this time around as well. Or we may not. But what remains is the palpable sense of fear.

People are afraid. Afraid of losing their jobs, their way of life, their retirement. When in fear, people spend less.  Nearly two thirds of our economic activity is driven by consumer spending and when consumers don’t spend it slows economic growth. Less growth leads to recession which reinforces further belt tightening by the consumer.

In order to help my clients cope with the anxiety, I have created the  weekly GV Confidence Minute on You Tube, helping you interpret the news in a rational, balanced fashion so you can keep your head about you when all others seem to be losing theirs.

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About the author:

Marc Lewyn is the co-creator of Guided Wealth Transformation™  a revolutionary new process that helps one use not just their wealth but all of their resources to create the life that they desire and enhance the lives of people  they care about. Learn more about Marc >

Learn more about Guided Wealth Transformation™>

Is it time to invest in Real Estate?

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The state of real estate markets has been a cause for great concern for many of us.  The value of our homes and our real estate portfolios have suffered large setbacks in recent months. According to the Case Schiller Home price index, prices of homes across the nation have dropped to levels not seen since 2003 or in some regions,  even earlier. But stock market performance of late has not been very reassuring. Ten year inflation adjusted returns on the S&P 500 index are negative. When compared to stock markets, real estate values have suffered far less over the last decade. 

 Under the circumstances, it would appear that it may have been a better investment to own real estate that has the added potential of producing rental income. But looking at the past to guide future investment decision carries some inherent risks. There is no reason to believe that the performance of the last decade will continue into the future. There is also an assumption that the real estate markets have bottomed out and home prices are going to move up from here. In fact, there are a number of indicators that may suggest otherwise.  

Availability: The market is still deluged with record number of houses on sale.  Then there is a large market of sellers who are patiently waiting for the tide of home prices to turn before placing their properties on sale. Many banks and lenders have used their discretion in slowing the rate of foreclosure by allowing people to stay in their homes, artificially reducing the number of available units for sale. This trend cannot be expected to continue. Increased supply could lower prices.

Prices: As foreclosures and mortgage defaults continue to climb, it could put further pressure on home prices.  The credit freeze continues to hamper mortgage originations.  Currently, the only buyers of home loans of in substantial amounts are the government agencies.  Previously private buyers of mortgages accounted for roughly half the available credit. This private market has pretty much dried up since last year making it difficult for home buyers to find credit at attractive rates.  Home appraisers have become very conservative in their valuation of homes of late, adding to the woes.

These factors hardly suggest a bottom in sight. In fact, one could expect further falls in home prices. The deflating of the housing bubble may have some while to go.

Commercial properties with falling occupancies and lease rates seem to share a similar trajectory as home prices. Furthermore, commercial properties may face a tough environment ahead despite an improving economic outlook. Much of the commercial debt that needs to be rolled over in to new loans over the next two years may have a very difficult time as securitized markets for these debt has found few takers in the private markets.

Which brings us back to the question, is this the right time to buy real estate? Timing the markets for a bottom can be a fools’ errand however, the predominance of data points to  tough times ahead for the real estate markets.

Are stocks a better alternative? It may just happen to be so.  There has been a precipitous drop in corporate profits over the last year. Stock valuations have consequently suffered. However, unlike the real estate markets, corporate profitability has exhibited some signs of stabilizing and in some instances even showing a slight improvement over the last quarter. Should the trend persist it is likely that stock market recovery may precede that of real estate markets.

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About the author:

Marc Lewyn is the co-creator of Guided Wealth Transformation™  a revolutionary new process that helps one use not just their wealth but all of their resources to create the life that they desire and enhance the lives of people  they care about. Learn more about Marc >

Learn more about Guided Wealth Transformation™>

The High Cost of “Free” Financial Advice

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I remember growing up and the local bank offering my parents a free toaster if they opened a new account.  We all know  the toaster was never really free.  In the old days, the banks paid their depositors almost nothing and lent the money at market rates.  Giving away a toaster was a small price to pay for attracting deposits.

Today, many asset management firms offer  free financial advice to earn the right to manage your investments.  The banks and brokerage firms “free” financial advice is also not free; in fact it may be the most expensive  financial advice you ever receive.

Why is this advice so expensive?  Firms that offer this “free advice” view the service as a cost center since it generates no independent revenue.  The goal is to provide the minimum level of advice required to convince the client to move the assets.  Any time or effort in excess of this minimum requirement doesn’t make sense since it increases expenses and decreases profits. 

The problem is that great financial advice requires a thorough understanding of the clients situation and complete financial picture.  An in-depth process of understanding and exploring one’s true motivations, desires and needs takes time and talent and resources.  A better understanding of these values sets the stage for a person to truly use their wealth to create the life they desire.  In the end, it can save the person a lot of money, as this comprehensive, in-depth approach is more likely to identify tax savings, allows one to more efficiently use their wealth to reach their objective and puts their financial decisions in context  so that they can make choices from a place of confidence. It prevents fear from gripping them and hindering them from effectively positioning, managing, and using their wealth to build the life they desire.  Over time, the upfront investment in the fee may end up being a prudent decision because of the foundation they’ve built to effectively use their money.  On the other hand the cost of the “free minimal advice” can prove very costly with unwanted outcomes that may be realized too late to allow a course correction.

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About David Geller:

David Geller is the co-creator of Guided Wealth Transformation™  a revolutionary new process that helps one use not just their wealth but all of their resources to create the life that they desire and enhance the lives of people  they care about. Learn more about David >

Learn more about Guided Wealth Transformation™>

What’s the Solution?

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The government has pumped trillions of dollars into our financial system in stimulus packages and credit guarantees.   Stimulus money has made our banks awash in credit, and in normal circumstances it is expected that banks would lend this excess  and such lending by banks would spur economic growth.  But banks today, anticipating further loan losses are reluctant to lend in this recessionary environment.  Many of us have heard of instances where creditworthy customers have been denied a loan or loan terms being rather onerous. The private credit markets remain frozen and as a result, the net available credit for commercial enterprises and individuals is low. The economy in the meanwhile, starved of credit remains mired in a recession.  

In the light of these circumstances, the Obama administration has begun to contemplate yet another stimulus package to revive the economy.  But our government debt has already reached staggering proportions. It’s now approaching 80% of our gross domestic product or GDP. Given the circumstances, would such a move be a prudent one, and more importantly will such a move lead to a robust economic recovery?

The alternative of course is that the government does not do anything and let the economy wobble until it is able to regain its footing on its own. That of course brings up the specter of a protracted recession similar to one in Japan in the 90’s, or worse still, the great depression.

So what is the solution? I would like to invite your comments and thoughts on the current economic crisis.

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About the author:

Marc Lewyn is the co-creator of Guided Wealth Transformation™  a revolutionary new process that helps one use not just their wealth but all of their resources to create the life that they desire and enhance the lives of people  they care about. Learn more about Marc >

Learn more about Guided Wealth Transformation™>

“The Price is Right” or is it?

At the height of the boom, a builder built a beautiful “spec” house.  An avid buyer bought the house for 4 million with a pay-option ARM.  Two years later as the interests rates on the ARM reset, the investor threw the house keys in an envelope addressed it to the bank.  Not thrilled at the prospect of holding yet another property on its balance sheet, the bank quickly auctioned off the foreclosed property fetching 2 million. 

A private equity fund that bought it, paints the exterior, mows the lawn, thinks the property is undervalued and puts the house back on the market at 3 million.  A homebuyer loves the deal, is ready to buy, gets her bank loan pre- approved for the right amount of money and is ready to close the deal. The appraiser from the bank underwriting the loan stops by, finds that a number of houses on the street are also foreclosed and then appraises the house at 2.5 million. The private equity company refuses to lower its price and the deal comes undone. The house sits on the market unoccupied and adding to the inventory of unsold homes in an area.

Sound familiar? This story is being played out over and over across our nation.  Foreclosed properties in the market are driving down prices. Stung by lawsuits and charges of overly enthusiastic appraisal values in the recent past, appraisers have now become perhaps too conservative in their estimates.  So what is the right price for the house? Like the TV Show “The Price is Right” it’s become a guessing game.  While the various parties go back and forth on whose price is right, it adds yet another twist to the already tangled set of problems plaguing the housing market today.

About Charlie Gray:

Charlie is the co-creator of Guided Wealth Transformation™  a revolutionary new process that helps one use not just their wealth but all of their resources to create the life that they desire and enhance the lives of people  they care about. Learn more about Charlie >

Learn more about Guided Wealth Transformation™>