Need some help with allocation?

"Jay" wrote Re a 50% stock (down some 20-30%), 40% money market, 7% high grade bond, 3% gold allocation and market volatility

When you allocated to equities, did you intend to hold for at least ten years, cognizant that there is volatility in equities and so you would have to be able to stomach bear markets? If the answer is yes, then I suggest spending a weekend experimenting with the free online asset allocators linked at

see if your feelings change about your allocation. You have nearly half your savings in low risk vehicles. Assuming you have a lot socked away, you are faring this bear market a lot better than most 40-year-olds at this point. If the allocators suggest you hold more equities, then I think you should keep your mind open to moving some of your money market funds into conservative stocks. They are available at bargain prices right now.

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I'm assuming you have an emergency fund in cash separate from the long-term "savings" you described above?

That's already a very conservative allocation for long-term savings, especially with such a large cash holding. You might consider increasing your equity exposure a bit, perhaps up to 60%. With the market down so much, this is a great time to buy.

Muni bond funds are a great buy right now, too -- everybody's piling into Treasury bond funds instead, and I noticed my muni bond funds' NAVs have dropped 5% or more in the past couple of weeks. As you may have noticed :-S money market funds are no longer considered entirely safe, plus the yields are basically nothing right now. So, if this is a taxable account and it makes sense for your tax bracket, putting some of your cash into munis would give you some diversification and pump up your yield a bit. Of course there's risk of NAV fluctuations like we're seeing now, but historically munis have a very low default rate, lower than the safest of corporate bonds, so it's quite a conservative investment.

-Sandra

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You could combine all the money in US Large Cap, US Mid-Cap..US. Small etc into the ETF 'VTI' and save yourself the fund expenses.

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10 years- meaning you expect to retire at age 50? Can you suggest how much (in terms of income) is already saved?

If you have 25X income already saved, 50% stocks and 50% cash makes sense. If you have 12X income already saved, 50-50 still makes sense, but

60-40 would probably help with returns over a 10 year period. If you have 6X income or less saved, and you think you can retire in 10 years, I would like to know that plan in detail (is there a pension or something else involved?). My advice if in 6X salary or less already saved would be to plan to retire in 20 years, and invest the assets in a 60-40 or 80-20 portfolio. I like the idea of cash to buy on dips, whenever a dip changes the 50-50 allocation by 5%, I would suggest buying enough to get portfolio back to 50-50. When market increases in value and goes up higher than 60-40, I would sell around 5% of the gains.

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Thanks for all the suggestions.

My current savings are around 6x my current gross income - my income used to be double of what I am making right now. So, I expect to add much smaller amounts to my investment portfolio in the coming years but at the same time my current income is sufficient for my current expenses.

The money is saved for children's higher education etc.. + retirement.

ETF (VTI) Question: Is there really a significant saving with investing in VTI vs. Vanguard's corresponding MF, considering buy and hold for 1 year? Any differences w.r.t. taxation?

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I think that you need to increase your investment returns (don't we all?).

Your allocation should depend on the split between your taxable accounts and your retirement accounts. Keep your money market in your taxable account, but invest half of it in equities or equivalent mutuat funds.

Given the extreme volatility of the market, you might want to invest up to 10% of your equity in commodity ETFs such as DBC, DBA, USG, and GLD. You can sell options against those to gain some extra income.

You should have at least 10-20% of your portfolio in an energy ETF to insure against future increases in crude oil.

-- Ron

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They are both share classes of the same fund. The main difference, besides the usual between ETFs and MFs, is in expense ration. VTMSX is

0.15% and VTI is 0.07%.

Not much. I believe ERs are paid out of dividends, so you'd get more with VTI, so a bit higher tax drag. You can view the recent distributions on the web site. Neither should have much in the way of capital gains distributions.

VTMSX:

VTI:

Brian

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I'm always really skeptical about claims that you "need" to have some big chunk of your portfolio invested in a specialized sector fund, whether it's energy, tech, gold, or whatever.

Chances are, anyone who already holds a core large-cap fund already has plenty of exposure to energy companies. E.g., S&P 500 is something like 16% in the energy sector. If you want to go a little overweight, fine.... but "need" to? The OP strikes me as being a very conservative investor, with only 50% in equities, and telling him that he "needs" that much concentrated energy exposure seems kind of crazy.

-Sandra the cynic

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I am not talking about a big chunk. An investor needs to have some investment in what is consumed.

I also claim that commodity funds are effective at diversifying because they frequently move in an opposite direction to the equity market.

It wouldn't be a great idea to put everything into S&P 500 either. Even among the S&P 500 stocks, the energy sector XLE has done 10% better than the whole category.

How do you propose that the investor avoid financial stocks? Or, at least, reduce exposure?

The OP is only setting on 6 times annual income, so the OP needs to have more cash, but 50% money market isn't going to get him to the point where he can comfortably retire in addition to meeting the needs of his children. 20% money market would be more than adequate for emergencies.

-- Ron

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One thing that I gather from the various posts is to allocate some money out of Money Market Funds into Equity/Debt/Commodity.

Someone did suggest Muni Bond funds and I will look into them. I am very interested in allocation to Commodities as well but can not find any "pure" commodity funds apart from GLD. I think, most of the other commodity funds/ETFs invest in stocks of commodity companies.

Interestingly, I am very concerned about the current crisis but none of the people who replied spoke of it. Which tells me that this crisis is just like any other we have experienced over the past 50 years and we will come out of it soon. This seems to be a universal opinion amongst the smart investors. There is no chance it fundamentally changing how investors/planners look at equities as an asset class!

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Is the 6X annual income for both kids college and retirement? Is this 3X annual expenses in stocks and 3X annual expenses in cash?

When do you want to retire? When do you expect to retire? Your current age is 40, correct? Is wife about same age? Does she work?

How much of cuirrent income do you contribute? 20%, 15%, 10% or other?

My advice is you want 20% of gross income being set aside. Send 15% into retirement accounts and 5% into short or mid term savings (kids ciollege, family vacation, new car). This factor alone is probably as important as the allocation you asked for.

I will suggest you have reasonable exposure to most asset classes. I think 3% in commodities is about right. Maybe up this a percent or two. The high cash exposure is the biggest issue. I think 60-40 would be most conservative allocation a person in your situation (15-20 years from retirement) should consider. But another comment I will make is do not let anyone tell you how much risk to take. Only you can decide that.

Personally I am 35 yo and have 97% equities. 42% large cap, 15% mid cap, 15% small cap, 15% foreign large, 10% foreign small cap and emerging markets and 3% bonds. I increase bonds by 1% twice a year as a slow rebalance to a 90-10 or 80-20 portfolio and I plan to retire in

18 years (age 53). I had close to 200k invested in this allocation until recent events reduced it for me.

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I have mixed feelings about this. Experience teaches that the above is correct (every bear market/recession/contraction in history has ended). But that same experience also suggests that when the "universal opinion" is that a particular thing will happen within a particular timeframe, it won't.

I am proceeding as though both will prove true. (The bear market in equities will end, but it will take longer than is commonly believed.) Accordingly, from a financial planning perspective, investors with less than a full 12-year investment horizon should pay attention to their allocation.

-HW "Skip" Weldon Columbia, SC

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Personally, my reaction to the "crisis" has been to postpone thoughts of retirement a while longer. Last year I thought that I was close enough that I could consider, say, cutting back to half-time work in another year or two, but now it's looking like the best way to protect my retirement is a stable full-time job in the meantime. :-) When I realized that I was getting close to my savings goal, I'd already tweaked my asset allocation a bit to be more conservative (I went from

75% equities to 65%), and that's still where I want to be until I have a firm plan in place for retirement.

I *have* been doing a bit of rearrangement of my portfolio, though -- taking advantage of the down market to do some tax-loss selling and consolidation of some of my holdings. And since I still have salary coming in beyond my everyday needs, I'm still DCA'ing into the market on the dips.

This would also be a good time to consider doing a Roth conversion on an IRA -- less taxes due while the market is down.

-Sandra

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The rate of return on on money market funds and bonds is going to be lower than that for equities. Equities suffer from market and valuation risk, but that can be reduced through diversification, options, and research.

Yes Muni bonds are a good deal especially if you are in a high tax bracket. My sister and her husband use those.

Pure commodity ETFs have the problem of greater volatility. I think that DBC has a good mix of commodities. Commodity ETFs aren't going to rise much faster than inflation on the average, so you will need to sell covered calls against them to get a decent rate of return.

The current crisis mainly affects financials, but the taxpayers are going to be affected from the bailouts.

-- Ron

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I would think that 10% - 20% counts as a big chunk.

By that reasoning the OP should then put 10% - 20% in each of 5 - 10 other sector ETFs that represent consumables? Cars, food, water, firewood, computers, fertilizer, pet products, prescription drugs, nails, and electricity, perhaps? Might be hard to find ETFs for all of these. What does the OP do about toilet paper?

If he were to buy an S&P 500 fund, why would the OP need to reduce exposure to financials? The current troubles are priced in, right? If not, why not short a financial ETF (not that I actually recommend this...)?

This is the point that can't be stressed enough, unless there's some item of info we're missing like he's going to get a big pension, inheritance or something.

-Will

william dot trice at ngc dot com

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I'm not sure that's what folks have been saying. Or perhaps that it's just not clear to me that that's actually necessary.

In your original post, you didn't talk about goals clearly enough to really answer. You said, basically, this: 50% equity, split between various asset classes, including REITs 40% money market 7% bonds 3% gold

But what is all that money for? How long off are the goals?

You mentioned that you're married, have two kids, and don't expect to need most of this money for 10 years. All well and good, but you're probably not planning on retiring in 10 years, and you may have some large expenses coming up at or just after that 10 year mark - you may want to plan for different goals (and time horizons) with different allocations.

For example - how much of that money do you expect to spend on college for the kids? How much is retirement money? How long until those two events take place? Is some of it actually money for the purchase of your next car?

Money for very long goals - say, retirement 20 years from now, and with the expectation that the retirement itself will take place over 30 years or so - that money may be invested more aggressively, and perhaps get more conservative as you approach the actual retirement (but not very much so, since in order to last 30 years and keep up with inflation, you'll almost certainly want to retain at least some equity exposure well into that retirement itself).

But suppose that half of that money is for your kids college costs. Those costs may be coming up soon (not clear, but I'd assume less thatn 15 years), and when it does come up, it'll probably all get spent in the space of 4-6 years. That money probably needs to be a lot more conservative than the retirement money, and when the actual spending date comes up, even more so - by the time the kids start school, it'll get spent down very quickly - not over 30 years like retirement, so a much larger proportion of the college money should be in cash and/or short-term bonds by the time college starts.

The new car fund? The vacation fund? Both should probably be all cash and/or short-term bonds.

Munis may or may not make sense depending on whether the money is in a taxable account or not, and depending on your marginal tax rate.

Bear in mind that broadly diversified equity funds inherently have some exposure to commodities. Some folks feel like adding more in a straight commodity asset (ie. your GLD, or other ETFs or ETNs which often hold futures), but I'd be very wary of any advice to put more than a couple of percent into any of those. The very-long-run return of commodities is only about the same as inflation (ie. around the same as t-bills). Along the way, they sometimes zig when the market zags, but it's not clear that they add enough non-correlation benefits to make them very worthwhile unless one adds a lot of them - and thus lowers overall portfolio return in the long run. Gold has had a great run lately. Sure. And it did in the

70s, too. But between '82 and just a couple of years ago, what a dog! A 20+ year of not even holding its own value or even keeping up with inflation - I wouldn't want much of a portfolio there, and I don't know of any way to reliably time that market.

The overall economy is doing a lot better than the banks. Nobody knows how much the weakness of banks and the credit markets will creep out and hit the rest of the markets, but we've certainly survived (and prospered) through some horrible things before. 9/11, the 70s, some world wars all come to mind.

And frankly, the indices have dropped a good bit, but only barely more than one standard deviation. The market is not pricing this "crisis" nearly as badly as, say, it priced some recessions. It may get worse, it may get better, but so far, for all the yelling and screaming and headlines and fear, the thing to do is keep your head straight and look at the bigger picture and the longer run.

This has been a great reminder for folks to really assess their actual risk tolerance. How much can your portfolio go down before you give in to fear? In good times, folks think they are very risk tolerant. When their portfolios go down by 40% or more (see, say, a few years ago at the beginning of this century!), maybe they realize they aren't as risk-tolerant as they thought they were while watching their portfolios in '99.

So I'd say - really think hard about what kind of volatility you can tolerate. But don't panic, certainly not over the news headlines. And clarify your goals.

Energy is 12.9% of the S&P 500(Dec, 2007).

I would hope that there would be some attempt to match the market cap percentages of the whole stock market.

That would be assuming the stock market is efficient. There are ETFs that short various sectors such as financials.

An S&P 500 fund would also miss all the mid-caps and small-caps.

-- Ron

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Thanks All - Very helpful information on setting the "Goals". Something that I have missed in my investment plan - something more than saying "I have money set aside for the future for education, retirement etc... and I want good returns on it".

I will go through one of those online tools - do they give information on how much I should be setting aside for retirement, children's educaton etc.....For example, if your gross is 70K, you should be putting aside X every year, you should aim at Y for childrens education to be used 10 years from now, Z for retirement....

Thanks.

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If you find a savings calculator which suggests $X to retirement and $Y towards education, let me know (I have not found one). That is why I came up with the 15%-5% technique posted above.

Remember that IRA monies can be tapped for education expenses penalty free. Education monies cannot be transferred to retirement accounts without incurring taxes or penalties.

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