Comments on: Finance Geeks – Investment Allocation

By: Neil

Neil — Fri, 21 Sep 2007 22:01:39 +0000

The blog fairy left a primer on how the Fed affects the economy over at blog.kordix.com/nog. Not a bad read, but I think I’d rather have the quarter under my pillow…
I’d never heard of this Post-Modern Portfolio Theory. From the quick once-over I gave the wikipedia article, it looks like it mainly just makes the distinction between upside and downside risk. MPT uses standard deviation from the mean historical price to measure risk. There is no distinction between upside and downside, its just that it varies from the mean by a certain percentage, be it up or down.

By: matt

matt — Fri, 21 Sep 2007 06:58:42 +0000

HOLY FRICK!
I never expected postmodernism to crop up HERE! except this time, everyone can at least agree on a definition…
Haha it really is quite funny though. A dissatisfaction with the “inhuman” nature of MPT, so they factor in the way humans experience risk. Almost does like up with modernism/postmodernism in some ways.
Anyway…. I digress. Those 401k options are pretty lame-ass. get the match, put the rest in an ira or something with more/better options.
About correlation, I thought places like morningstar would have tools to give you a solid number for that stuff… no? If not, how *are* you supposed to figure that out? I haven’t actually focused on the numbers as far as correlation goes… mostly just getting in a few different asset classes, which passes for non-correlated assets if you are stuck working with a limited number of fund choices.
About PMPT… I’m really gonna have to do some more reading on this. Is it just basically a new way of defining risk? Interesting stuff… I may have more to say about it after I understand it.

By: Jon

Jon — Fri, 21 Sep 2007 06:35:25 +0000

Jesus, my 401k offerings from Jackson-Hewitt seem to be terrible. I have 4 options, small cap, large cap, bonds, and equity. Isn’t that lame as hell?
One guy at work sat down and explained MPT to me. At first I was excited as hell, but then I realized it’s REALLY DAMN difficult to accurately predict correlation without A LOT of research.
Also, MPT is dead. Check out post modern portfolio theory

By: matt

matt — Fri, 21 Sep 2007 05:39:18 +0000

Dang – I didn’t realize the expense ratio was hidden like that. Yowza.
Neat idea with just getting the match and then saving for a house/condo/whatever… Perhaps I aught to do a similar thing. Right now our “house fund” is also our “emergency fund” and so its harder to keep that money off-limits when the alternator goes out in one of the cars or something…
Speaking of high-interest savings accounts, what do you think will happen to interest rates on those with the fed rate cut? I think ING dropped their rates already. Neil, perhaps you could write a blog covering how that all works in more detail…

By: Dave

Dave — Fri, 21 Sep 2007 03:19:42 +0000

I’ve got a bunch of money in international b/c I’m not so hot on the US economy right now. It also helps protect given a weak dollar and it lends to good diversification. Just a personal feeling. I’ve tried to do a 50/50 balance but since the foreign outperforms the US funds, it gets unbalanced and needs a little tweaking now and then.
Both the international and emerging markets have outperformed the US picks for the past year and a half, by a good amount too.
Usually in a 401k plan, you don’t pay the front-end or back-end fees that you would with things like class a or b mutual funds bought on your own, so don’t worry about those. If what you put in is what you see in your balance, then there are none.
Also, you shouldn’t see/notice a big hit because expense ration is reflected in the funds NAV. Its “hidden” this way, which isn’t a good thing.
I haven’t dabbled in investing outside a 401k since I started work, although I did have three mutual funds during junior high through college that I played with. Right now I contribute right up to the max of Northrop’s matching and then the rest goes into a high-yielding online savings account to be used in the near future on a house/condo/townhome purchase.

By: Neil

Neil — Thu, 20 Sep 2007 23:26:10 +0000

Forgot some stuff:
At this point I actually like the large-cap American stocks with the weak dollar which will only get weaker as the rate cuts get priced in. Weak dollars mean profits in foreign currencies, which many large American companies have, will be even higher profits when converted to dollars. The growth recently though has been international. Jim Cramer always talks about his BRIC countries: Brazil, Russia, India, and China. These are the largest developing markets in the world and so presumably, this is where a lot of the growth will be.
And yes, actually, I had some insurance money that wasn’t doing anything so I put it into a discount brokerage about 6 months ago and I’ve been working with that. It’s not all that much but its taught me quite a bit and is giving me experience with what I’d like to go into which is investing. I don’t do anything too exciting and am primarily longer term, though I’m thinking about playing with some options since I’ve taken my Derivatives class.

By: Neil

Neil — Thu, 20 Sep 2007 23:13:15 +0000

The distinction between value and growth is more subtle than I made it seem. Value investors look to buy stocks that are “undervalued.” This could be in comparison to the industry, historical performance, or some target price that the stock “should cost.” The idea is that they are getting a bargain on the stock being priced below where it should be, and then they can sell it when the market correctly prices the stock.
Growth funds seek companies that are growing, i.e., building new factories, expanding, etc. The idea here is to identify which companies will be getting bigger and then selling when the company reaches a peak or plateau.
“Value” stocks are generally of large, mature companies who tend to pay nice dividends but the price appreciates more slowly. “Growth” companies tend to be in less mature industries and pay small or zero dividends, reinvesting the profits back into the company to grow.
Value funds are more of the slow and steady type. Over time they will earn more steady returns and are more stable. The flip-side is that the returns likely won’t be out of this world. Growth funds, on the other hand, are going to be more risky because they are trying to bet on which companies are going to successfully grow the most. When they get it right, though, and get in on the next Google, then they get a real nice payday.
The reason I prefer growth at this point is that with the number of players in the market growing so fast, there’s getting to be more and more competition for the underpriced stocks which I think makes them less productive for an investor. It’s still possible I think but it takes a lot of work. Warren Buffett is well-known for poring over financial statements into the wee hours of the morning and studying the company very thoroughly before he invests. Additionally growth offers the potential (key word: potential) for higher returns. If you do get some really nice growth returns early, you get a big jump in the long term from the extra compounding early on.

By: matt

matt — Thu, 20 Sep 2007 04:57:14 +0000

Growth over value? I had heard the opposite… One of the resources that I�ve been looking at is the articles on fundadvice.com, which is a service of Meriman Berkman Next� Who seem to know what they are talking about. In particular, I�m looking at an article called “The ultimate buy and hold strategy.” ( http://www.fundadvice.com/articles/buy-hold/the-ultimate-buy-and-hold-strategy.html ) The article says�
“Although the most popular stocks are growth stocks, much research shows that historically, unpopular (value) stocks outperform popular (growth) stocks. This is true of large-cap stocks and small-cap stocks, and it�s true of international stocks as well. From 1927 through 2006, an index of large U.S. growth stocks produced an annualized return of 9.3 percent; large U.S. value stocks, by contrast, had a comparable return of 11.5 percent. Among small-cap stocks over the same period, growth stocks returned 9.3 percent, and value stocks returned 14.5 percent.”
Is that to be trusted? Now I�ve got to go do a buuuunch more research.
Good call on the fees. I hadn�t mentioned any of the others because (as far as I can tell) they are being waived by my 401k plan. But that brings up something that I�m really very confused about. I can�t find that anywhere in writing, but I keep adding up the money I put into the plan and the money that comes out of my paycheck and they look to be the same. I�ve heard of other plans waiving the front end loads (which mine usually have) and so I am assuming that that�s what�s going on. Perhaps something I should confirm with my benefits people�
The other thing I�m a little foggy on, expense-wise, is when the 12b-1 fees are actually taken out� I�m coming up on the year anniversary of when I made my first contribution. Are they just gonna debit the sucker all at once like that? I suppose so.
Ahhh, yes� market swings. They don�t really bother me yet. That�s actually one reason I was keeping a small amount in bonds. When the market ticks down a bit, I�ll transfer some of the money from bonds to stocks and try to catch it on the upside. Not really something that a pure indexer would really do, cuz it pretty much boils down to market timing, but I haven�t gotten burned yet, and it�s a little fun. Of course, so far when the market has ticked down a bit, I only lose a couple hundred. I would imagine that as the account grows and it becomes possible to lose several thousands in a day, I might have to start being a lot more disciplined in these sorts of things. Course, that�s why there are bonds. But still�.
Speaking of fun, do any of you invest outside of a retirement account, and why? I have been considering investing in something like a DRIP, but I haven�t because I figure any extra money I got should go into the tax-advantaged account� But that�s way less fun, sometimes. Any thoughts?
P.S. Dave, I�m jealous of your low-expense funds. Unfortunately, my 401k choices are less than ideal (aside from the large blend, that one�s pretty good). I�m just waiting till I switch jobs and then I�ll roll all this over into an IRA, probably with vanguard. You�ve really got a lot in international� over half. Any particular reason, or just trying to stay diversified?

By: Dave

Dave — Thu, 20 Sep 2007 03:00:56 +0000

Matt, sounds like you’ve got a good handle on things, especially with the annual expenses. Index funds often outperform managed funds and at the same time, you aren’t helping to contribute to someone’s 90 bazillion dollar bonus.
I’m no expert, but I’d agree with Neil on risk exposure. Since you won’t touch this money for many moons to come, hop on some growth funds. I personally don’t have anything in bonds right now. I think it is too risk adverse. Over 30yrs, the market will average 8-9% return while a bond will get you 4-5%.
Get some small cap and emerging market exposure maybe. If you’re curious, my allocation looks like this:
Large U.S. Equity 11% .36% expense ratio
International 38% .45% expense ratio
Small U.S. Equity 37% .59% expense ratio
Emerging Markets 14% .91% expense ratio
I like reading others opinions and thoughts on money and investing. It helps to rationalize things and understand viewpoints.
Warren Buffet is an amazing investor, but remember, he invests for the long term. He is no day-trading market whore. Look where that has got him! The hardest part for me is to not react to the markets ups and downs. If something is out of favor one year, it will be in favor the next. Case in point, when I was starting out investing, I didn’t understand that a contrarian funds won’t break the bank when the market is going gang busters (like during the dot-com boom), but it will do well during a bear spell. Staying cool and realizing the long-term perspective helps me keep my sanity.

By: Neil

Neil — Thu, 20 Sep 2007 02:24:22 +0000

The only thing I’d suggest is that with a long time horizon, presumably 30+ years, you may be better served by focusing on growth funds. You’d have to read the prospectus of the funds to know for sure, but generally value funds focus more on income (dividends) and a stable stock price, than capital gains (increases in price). Dividends, for small companies especially, are rarely more than 2-4% annually (and not all companies pay dividends), whereas their capital gains could be much higher.
You may have picked up on it, but there are actually 3 different fees that funds can charge though it’s rarely all three. A front-end load is a percentage of the money that you put in being siphoned off. Back-end load or redemption fees are a fee to take money out. These are sometimes time-contingent so that you only pay if you take money out before a certain date. Maintenance or 12b-1 fees are annual fees for managing the money. Be sure to check which of these fees is(are) charged because it could change the actual cost of the fund. Again, check the prospectus which, by law, must be publicly available.