Many of my readers have specific personal finance questions. The extra information in the WEALTH TIPS NEWSLETTER (sign up on right) seems to spur even more questions. I love sharing my financial experience with others, so here is this weeks question.

John wrote in and asked for advice for himself and his daughter;

HISTORICAL RETURNS

I would like your opinion and advice on how I should allocate my investments and my daughter’s investments among mutual funds. Both our accounts are with Fidelity. I am 56 and plan to retire at 60. I have $400,000 in IRAs (Traditional and Roth). My daughter is 24 and has $65,000 in an individual acct and $50,000 in both Roth and rollover IRA. There are so many funds to choose from and I feel overwhelmed. Any suggestions would be helpful.

Caveat; This article will touch on the topics to consider when choosing mutual funds. Please do not take this as personal advice for your individual situation. There are many considerations when planning an investment portfolio. For any specific investing information, please contact your own investment advisor or CPA. Fidelity has advisors on staff that can help with investment questions as well. Personal disclosure-I have an account at Fidelity.

Too Much Information is Not Always Better

There is scientific evidence that it is more difficult to make a decision when confronted with a large number of choices, than when given just a few choices. I think this is particularly true when it comes to investing in mutual funds. Did you know there are more individual mutual funds than individual stocks? How is someone able to decide among the over abundance of offerings?

Determine Your Risk Level First

Before considering how many and what type of funds to choose, you must figure out how much volatility or risk you can stomach. Those who cannot sleep when their investment portfolio goes up and down, should have less invested in stock investments and more in fixed or bond type investments. Additonally, the more time available before you need access to your funds, the more agressively you can invest.

Stocks and stock mutual funds are quite volatile and over the short term (which can be up to five years) can go up or down in value. Over periods of more than ten or twenty years, their normal trajectory is upward.

Never put any money in stock type investments which you will need within the next five years.

Bonds are less volatile, yet long term historical data suggests that they offer lower levels of return than stocks. Contrary to the past few years.

In general, if you are close to retirement and cautious about risk you should have a more conservative portfolio with a larger percentage of your funds in bond type investments than stock type investments.

John’s 24 year old daughter has a long working life ahead of her, time to make up any investment losses and should think about investing a bit more agressively.

Which Mutual Funds to Choose?

Actually, this is a much easier question than you would think. You only need a few index funds to have an optimal portfolio. Since John’s accounts are at Fidelity, I’ve included some Exchange Traded Funds (ETFs) which can be bought commission free at Fidelity. Most of these funds and ETF’s are generic index funds with low expense ratios.

Most low cost, broad based index funds of the same type are comparable. Vanguard has the largest selection of low fee index funds.

Pick an index fund from each category:

Total U.S. Stock Market Index Fund

• Vanguard Total Stock Market Index Fund (VTSMX)-Fidelity charges a fee to buy this mutual fund
• Russell 3000 Index Fund (IWV)- Exchange Traded Fund with no commissions from Fidelity

Broad-based International Index Fund

• Fidelity Spartan International Index Fund (FSIIX)

Diversifed Bond Index Fund

• Vanguard Total Bond Market Index Fund (VBMFX)-Fidelity charges a fee to buy this mutual fund.
• Barkleys Aggregate Bond Fund (AGG)-Exchange Traded Fund with no commissions from Fidelity

The percentages invested in each fund depend on your risk tolerance and preferred asset allocation. To learn more please sign up for my Wealth Tips Newsletter and get a free e-copy of 20 Minute Guide to Investing (top right of this site). There are sections on determining your risk tolerance and asset allocation.

The most important factors in investment wealth building are to pick an asset allocation and stay invested through thick and thin. The chart of historical returns illustrates that long term asset performance is generally positive. If history is any guide and if you believe the USA and world economies will continue to prosper, your investments will increase in value over time.

For more commentary on Index Funds:

Save Money with Index Funds at Invest it Wisely

Index ETF’s vs Index Mutual Funds; Which are Better? at My Personal Finance Journey

Money Help for Christians provides a Beginner’s Guide to Index Funds, Mutual Funds, and ETFs.

Are Actively Managed Funds a Fools Game Compared to Index Funds? at Squirrelers.

Consumerism Commentary offers a sophisticated debate; John Bogle and Jeremy Siegel Debate Index Funds.

What are your preferred investments?

SIMPLE ASSET ALLOCATION

MBA Series #1

“Don’t put all of your eggs in one basket.”

The beginning of the year is portfolio rebalancing time for investors. I write a lot about investing as I believe it is an achievable path to long term wealth. If you don’t know what asset allocation is or much about investing at all, then this article is for you.

Modern Portfolio Theory is the science that drives most of the writing about investing today. As I put the finishing touches on the university class I’m teaching this winter in Investments, I’m going to share some of the basics with you; FOR FREE!

Tried and True Investing

Diversification in investing means don’t put all of your money in one investment or one type of investment.

Why?

When that investment goes down, there goes the value of your invested assets-down.

Buy different types of investments, so that when one goes down in price, the others may go up, or at least remain stable.

Diversification smooths out the ups and downs of the value of your investments.

For example, it is rare for bonds and stocks both to go down at the same time. During the past decades bonds have outperformed stocks, an historically unusual occurrence. Over long periods of time stocks have outperformed bonds, but a combination of both asset classes reduces your portfolio volatility.

There are all types of asset classes such as, international stocks, country specific stocks, small cap stocks, commodities, real estate, corporate bonds, government bonds, international bonds and many more. All of these types of assets can be bought as individual holdings, or combined in mutual funds and exchange traded funds (ETF). But, you don’t need to worry about the wide variety of asset classes unless you are passionate about investment management. You can obtain a satisfactory amount of diversification with just  two ETFs or mutual funds.

Asset Allocation means selecting specific asset classes and choosing the percentage amount invested in each asset class. The chart above illustrates a simple asset allocation model.

Simple Portfolio Management

The research abounds that a basic asset allocation of a certain percent in stock investments and a certain percent in bond investments has led to long term wealth creation.

With annual rebalancing to make sure the percentages in each asset class remain in alignment with your stated preference, you can grow your assets with little time spent in managing them.

Index funds and ETFs are perfectly suited to a simple and effective portfolio management approach. The two asset portfolio shown in the chart above combines a world stock market index ETF with a total US bond fund. Depending upon your age and risk tolerance, place more or less in each asset class.

Rebalance your portfolio at the end of the year to get back to your originally selected asset allocation. In other words buy or sell from each holding to get back to the desired percentage amount invested in each fund. Paul B. Farrell of Market Watch has a wonderful series called the Lazy Portfolios with several asset allocations and performance metrics. For more ideas on this topic, it’s worth a read. The ten year annual returns of the 8 Lazy Portfolios ranged from 4.8% to 6.8% versus a ten year return of the S & P Index of 2.86%.

Consider this easy approach to investing to grow your wealth over time. This method is ideally suited for use with a workplace retirement fund.

For more on this topic, subscribe to my Wealth Tips Newsletter and receive a free ebook, 20 Minute Guide to Investing. (Sign up on the right)

Caveat; This article is for information purposes only and is not a recommendation to buy or sell any specific securities. For investment advice see your own personal advisor.

If You Can’t Get Enough Asset Allocation, Here’s More

Asset Allocation by Age at Couple Money

Doug Warshau wrote about Asset Allocation for People in their Twenties at Sweating the Big Stuff

The Absolute Importance of Asset Allocation at Money Help for Christians

My Personal Finance Journey shares his Asset Allocation

For those asset allocators out there, what is your asset allocation and why?

How Do You Analyze Invesment Performance?

In investing, you feel great when your statement shows a nice fat annual return like 12% or even 13%. Conversely, when you have a “bad” year with a negative return, you’re disappointed.

What is a benchmark? “A standard used for comparison. For example, the NASDAQ may be used as a benchmark against which a technology stock is compared.” Investorwords.com

What are the Correct Benchmarks to Use For My Investments?

What Does Index Mean? “A statistical measure of change in an economy or a securities market. … An index is an imaginary portfolio of securities representing a particular market or a portion of it. Each index has its own calculation methodology and is usually expressed in terms of a change from a base value. Thus, the percentage change is more important than the actual numeric value. Stock and bond market indexes are used to construct index mutual funds and exchange-traded funds (ETFs) whose portfolios mirror the components of the index.” Investopedia.com

How Did My Stock Fund Perform; year-to-date?

The Takeaway

Forget about absolute performance, if you seriously want to evaluate how your investments are performing. Find the benchmarks for your mutual funds, they are listed in the prospectus or on the web-site. Then look at how your investments did in comparison with their unmanaged index benchmarks. If you are besting the indexes over time, great. If not, consider switching your money into a low cost unmanaged index fund. You’ll be certain not to underperform the market!

I’ll let you in on a secret, many years ago, someone told my dad to buy gold. And he did. But after decades of no upward movement he sold. I know he is sorry now. The lesson is that in investing you have some hits and some misses.

ACTION PLAN:

Get a notebook and label it: “(your name) Personal Finance” and keep it by the computer. Use it to keep all of your personal finance goals, thoughts, activities, and plans.

• Choose a mutual fund or etf that you own or are thinking about buying. Go to the web-site of the holding.
• Look at it’s recent recent and long term performance.
• Compare the performance with it’s benchmark.
• If you fund is underperforming it’s benchmark, think about whether to keep it or switch into a related unmanaged index fund.
• Be sure to consider tax consequences.

(Remember, do not take this article as investment advice, but as educational information)

Top Investing Yakezie Blogs

• Buy Like Buffett
• OilandGasETFs
• Darwins Finance
• Financial Success for Young Adults
• Investor Junkie
• Money Mamba
• PTMoney
• The College Investor

Top Investing Websites

• Seeking Alpha
• Morningstar
• Investopedia
• Yahoo Finance
• CNN/Money

How are your investments performing?

image credit; ryanpyle.com

Why I’m Nervous About the Market

If you like what you’re reading, pick up my RSS feed and follow me on twitter so you get the word immediately.

This is a chart of some holdings in the professional portfolio I manage. I have some concerns about their valuations.

Investigating a few metrics implies conflicting valuation information. 

PE Ratio: As I wrote over at Buy Like Buffet in One Step Stock Analysis, the price earnings ratio (PE ratio) is a simple way to begin a stock stock (or Exchange Traded Fund) analysis. As a recap, lower PE ratios indicate undervalued and higher suggest an investment may be overvalued. The best use of this metric is to compare the raw ratio to its historical average.

52 week high and low prices: These prices show the annual price range of a holding. When the current price is hovering around the 52 week high, there’s cause for further investigation. It is more likely the price will drop rather than rise. 

MY CONCERNS

• The PE ratio’sof these ETF’s are either about average, or a bit low as compared their historical norms. This indicates at worst, fair value for the investments and at best, a bit undervalued.
• Since 1870 the historical PE ratio on USA stocks is about 15.
• Every price of these ETF’s is near their 52 week high. Although the prices could continue to rise, they have already increased over 100% in the case of VTI to 43.34% in VNQ. Compared with long term averages, these are substantial annual year increases.
•  In theory, stock prices should correspond with increases in revenues and earnings. In the short term, this rarely occurs. But, if the prices of these holdings moved in accord with their earnings, we should prepare for a substantial share price drop.
• In the short term, stock prices are extremely volatile.

 INCONSISTENCIES

Price earnings ratios are not seriously overvalued.

Rates of return are off the chart. In other words, the rates of return are enormous when compared to their historical averages.

Another consideration, as we are rebounding from several years of negative and low rates of return during the recession, these exceptionally great price advances are not unusual.

Large and small cap stocks average annual returns are 10.17% and 12.01% respectively. Last year, the Vanguard Total Stock Market index returned over 100%. If the statistical concept of “reversion to the mean” (simply put, returns adjust towards their average return over time) comes into play, we are in for some economic pain.

I’m not the only one unsure of the market valuations.

The Yale academic, Robert Shiller, and creator of the 10 year (trailing) Shiller PE is at odds with the market strategist, David Bianco. In the Wall Street Journal article, Is the Market Overvalued?, by E.S. Browning. Shiller believes the market is overvalued and Bianco disagrees.

MY RECOMMENDATION

Even if the market is overvalued, it may take some time to correct. No one predicts the future with certainty and consistency.

 If you are an investor, you need to accept the reality that financial assets go up and down in price.

Maintain an asset allocation you are comfortable with. If you are jumpy about market volatility, invest a smaller percent of your assets in stocks.

Do not invest any money in the stock market you need in the next 5 to 10 years.

& BARB RECOMMENDS LINK ROUND UP!

John responded to a recent article of mine in American Media Marketplace entitled Want to Get Rich From the Lottery? Start a Savings Plan Instead with this comment,

“(Saving) $50 a week for 52 weeks is $2,600, but it still wouldn’t meet the $3,000 minimum initial investment for the Vanguard Total Stock Market Index Fund.”

As a longtime cheerleader of Vanguad low cost Index funds, I WAS TROUBLED BY THAT COMMENT. I immediately called up Vanguard to confirm John’s comment. To my dismay, he is correct, not even with a commitment to automatic monthly contributions can you get around the $3,000 minimum initial investment. That’s way too high!

I frequently recommend getting started with investing, after taking care of these financial basics, by investing in a broad based mutual fund such as the Vanguard Total Stock Market Index Fund (VTSMX).

No more, although the advice still stands, the broad based United States Stock Index Mutual Fund has many clones. I stopped by Charles Schwab to check out their offering in this category.

The Schwab Total Stock Market Index Fund (SWTSX) is a better choice than the Vanguard Total Market Index Fund.

Schwab Total Stock Market Index Fund versus Vanguard Total Stock Market Index Fund

• Description: Seeks to track the total return of the Dow Jones U.S. Total Stock Market Index^SM, which includes all U.S. headquartered equity securities with readily available price data.
• Expense Ratio: Vanguard-0.19%; Schwab-0.09%
• Minimum Initial Investment: Vanguard-$3,000.00; Schwab-$100.00

Clearly, if you are just starting out, a fund with a small minimum required investment is an important consideration. Although a balanced portfolio should include a U.S.A. index fund, a broad based international fund, and some bond exposure, this article focuses solely on the U.S.A. index fund component.

Do not construe this article as a recommendation to buy or sell. Consult your own advisor for specific recommendations to fit your individual situation.

For a quick primer on investing download my FREE eBook 20 Minute Guide to Investing from the top right of this site.

Barb Recommends:

• Short and sweet at Yes I am Cheap; Answers to Common Personal Finance Questions.
•  At Yakezie, Sam, the Financial Samurai wrote Believe You Will Succeed, what could be considered a Guide to Life in this article, you must read it!
• Life and My Finances does a wonderful job explaining an important financial concept, gross income. He even throws in some ways to increase it!
• Soldier of Finance has a beautiful website with great advice, and a video too. Get informed and entertained; You Don’t Have That Much Debt, Really?
•  Free Personal Finance eBook, a great read by Carol in the Trenches
• One of the best articles on behavioral finance I’ve ever read at Money Crashers.
• Ever wonder about Buying a New vs. Used Car? Money Crashers offers some really good info.
• Ever consider getting a “debt free” college education. Read this guest article by Penny @  The Saved Quarter over at Get Rich Slowly.
• Should We Eliminate the US Postal Service? Ponder this question from Consumerism Commentary. I’ve thought about it myself.
• Want a good laugh? Head over to Millionaire Nurse Blog for some Money Saving Tips along with the humor.
• The College Investor asks, Why do Gas Prices Rise? I had to include this one as I’m a bit obsessed with inflation.

Barbara Friedberg Across the Blogosphere:

• Guest article; Eating Donuts Can Help You Stay on Budget at  Len Penzo dot Com.
• Guest article; Want to Get Rich from the Lottery? Start a Savings Plan Instead, at Making Money Blog at American Media Marketplace.
• Interviewed by Tim at  FAITH AND FINANCE.
• Totally Money Blog Carnival at Money Mamba
• Invest it Wisely
• Budgeting in the Fun Stuff
• Bucksome Boomer 

 If you like what you’re reading, sign up for my RSS feed and follow me on twitter so you get the word immediately.   

Chime in please; what other investment companies have LOW INITIAL MINIMUM INVESTMENT THRESHOLDS? 

image credit; the skateboarding maniac

INVESTING SOLUTIONS (part 3)

Welcome to Investing Solutions Week at Barbara Friedberg Personal Finance. This week there were three educational and enjoyable investing articles here. This is the final article in the series; please check out any you may have missed.

• Investing Solutions (Part 1); Why You Must Start Saving Now
• Investing Solutions (part 2); Six Investing Solutions Six Dangerous Investing Myths

I’m in the midst of teaching a Corporate Finance class for MBA students at a local university. Some of the concepts, although rather complicated, have important real world applicability. One of those uber-important concepts is, NET PRESENT VALUE (NPV). It is a method to put a dollar amount on future cash payments. It’s great if you win the lottery and want to determine whether to choose the lump sum payment or monthly option. Or what if you or your folks want to determine the present value of their monthly social security or annuity checks.

 When reading one of my favorite blogs, Consumerism Commentary, Flexo had to decide whether to take a lump some payment of his retirement account or monthly payments for the rest of his life. After reading the article, I went wild (not literally), but because I had to offer my 2 cents worth and do a net present value calculation for his predicament.

Here was Flexo’s situation:

He could receive a lump sum payment of $18,000 or $65.00 per month for the rest of his life.

Before I tell you which one he chose as well as the alternative most of his readers recommended, I’m going to introduce you to a systematic way to make this decision.

HOW TO CALCULATE AND UNDERSTAND NET PRESENT VALUE

You need to make an assumption before figuring out which alternative is better. The assumption is this; what percent return do you think you can get on your investment? I chose 7% because historically, a portfolio containing about 65% stocks and 35% bonds approximates a 7% return. Could I be wrong? Absolutely, I am making an educated guess.

To calculate how much a regular payment which continues indefinitely is worth today, all you need is this REALLLY SIMPLE perpetuity formula:

ANNUAL CASH FLOW/interest rate=PRESENT VALUE

If Flexo were to receive $65.oo per month, then he gets $65 x 12 or $780.00 per year.

Take the $780 and divide it by the 7%  interest rate: $780/7%=$11,142.86

THE NET PRESENT VALUE OF HIS $65.00 PER MONTH PAYMENT IS WORTH $11,142.86 today.

Since he was offered $18,000 or the $65.00 per month, he should definitely take the $18,000, because it is worth lots more than the NPV of the $65.00 per month or $11,142.86 NPV.

WHICH ALTERNATIVE DID FLEXO CHOOSE?

Flexo is a smart guy, as are his readers. And guess what, he took the $18,000 lump lum payment. And most of his readers also recommended that alternative.

Now all he has to do is invest that money in a few diversified index funds and watch it grow.

Help me get increase financial knowledge and tip this article. If you like what you’re reading, pick up my RSS feed and follow me on twitter so you get the word immediately. 

Don’t miss the first two Investing Solutions articles:

• Investing Solutions (Part 1); Why You Must Start Saving Now
• Investing Solutions (part 2); Six Investing Solutions Six Dangerous Investing Myths

Barbara Friedberg Personal Finance across the blogosphere:

My work was recently showcased at these sites. Why not stop by and check out the excellent articles?

• Carnival of Personal Finance; 7 Deadly Sins at Credit Cards dot com
• Little House in the Valley link round up; Energy Hogs Edition
• Carnival of Passive Investing at Free From Broke
• Investing Blog Roundup; No Emergency Fund at Oblivious Investor
• Black Coffee Link Roundup at Len Penzo cot com; Magic 8 Ball Edtition
• Carnival of Financial Planning at My Personal Finance Journey
• Investing Blog round up at Oblivious Investor

Which alternative would you have chosen, and why?

image credit:  Benjamin Theodore Payan

•   If you like this type of article, be sure and download a copy of my FREE eBook, 20 Minute Guide to Investing, by filling out the form on the right. 
•  After this post, visit American Public Media Marketplace to read my featured guest article entitled, What to do With Money Over a Lifetime

MAIN TOPIC: A Secret Revealed

While performing the quarterly portfolio updates for our family’s holdings, I compared the balances in El Carino and my Roth and Traditional IRA’s. We started contributing to our Traditional IRA’s in the 1980′s and switched to Roth’s when they were established by the Taxpayer Relief Act of 1997. Since we each contribute the maximum amount, I have a competition between our accounts. In fact, this little competition has been a secret until NOW! 

I manage both accounts and purchase and sell all of the holdings in each account. I have no system to determine which asset or type of asset goes into each account. I view the family portfolio management as a whole. I decide upon an appropriate allocation of stock, bond, real estate, and cash holdings and then divide our assets across all of our accounts into the holdings which correspond with the predetermined asset allocation (for the most part, I place high dividend investments in tax advantaged accounts to save on taxes).

Every quarter or so, I update the values and transactions in the accounts. And once or twice a year I rebalance.

THE COMPETITION

I compare the value of El Carino’s Roth with that of my Roth IRA. Next, I compare the value of his traditional IRA with that of mine. In reality, this is a game which has no value outside of my own amusement, since it is the overall portfolio management and allocation which is important.

The first couple of years investing in the Roth IRA’s I was investing in a lot of individual stocks. Whenever you go that route, you will experience tremendous volatility. And all of the losses were IN MY ROTH ACCOUNT. Although our overall net worth continued to progress due to the diversified investments; the value of my individual Roth IRA had a sad trajectory downward for at least the first 5 years.

How did it happen?

Several of the individual stocks that I chose for my Roth IRA TANKED. So at the end of 5 years, El Carino’s Roth IRA grew quite nicely, and mine grew in the wrong direction and ended up about 30-40% lower in value than his.

Don’t forget, our overall portfolio of holdings was growing quite nicely even though my individual ROTH performed poorly over the first few years.

In spring 2009, at the valley of the meltdown, I invested most of the assets in my Roth IRA in the undervalued real estate sector through a REIT index fund. Those holdings increased almost 100%.

After 12 years of my Roth IRA under-performing El Carino’s IRA, we are now EVEN.

PRACTICAL APPLICATION; Pick a Sensible Investment Strategy

In investing, large gains and large losses go with the territory. Rarely do you know which investments will outperform and which ones will underperform.

So, don’t judge your investing performance too frequently, either the good or the bad performers. 

Follow these rules and prosper:

• Choose an asset allocation suitable for your age and investment tolerance.
• Stick with the allocation for the long term. That means more than 5 years.
• Continue to add to your investments regularly.
• Don’t judge your performance too frequently. Remember, the overall trend of stock and bond investments is up, although in the short term, volatility is the rule!
• If you want to retire early, just bulk up the amount you are investing. The principles are the same. 

ACTION STEPS:

 Get a notebook and label it: “(your name) Personal Finance” and keep it by the computer. Use it to keep all of your personal finance goals, thoughts, activities, and plans.

1. If you have any interest in investing, you must read my 20 Minute Guide to Investing. Basic investing concepts are presented in a fun format.
2. Write down the “lessons learned” from your investment mistakes. Try not to repeat the same mistake again and again.

If you like what you’re reading, pick up my RSS feed and follow me on twitter so you get the word immediately. 

image credit: billcalladine

(For informational purposes only-a version of this article was previously published on September 14, 2010) 

“Of course. I favor passive investing for most investors, because markets are amazingly successful devices for incorporating information into stock prices.” Merton Miller

I love it when an economist espouses my opinion!  Short and sweet; this quote is the premise of the Friedberg Family Personal Portfolio.

• In PART 1 of this series, I talked about my investing FEARS.
• In PART 2 you learned how I began investing in individual stocks.

MAIN TOPIC: The Story Unfolds

Since the recent guest post, Perfect Investments for the Lazy Investor, by Mark from Buy Like Buffet garnered so much interest, especially from those individual investors out there, I thought I’d follow up with an overview of my current personal portfolio asset allocation.  

Today, the WHAT & WHY of the Friedberg family asset allocation is unveiled.

El Carino and I are within ten to fifteen years of retirement. Although I don’t know whether we want to retire at that time, I’m certain we would like the OPTION TO RETIRE. I am presently focused on captial preservation and modest growth.

The bulk of our assets are held in LOW COST INDEX MUTUAL FUND’S OR ETF’S.

Although we still have about 8-10 individual stocks in our personal portfolio, they represent a very small percentage of the total.

This is not a post where you will see our net worth, but what I think is more important, you will learn the percent we allocate to certain asset classes and why.

After many years of researching individual stocks, buying and selling in both our personal family portfolio and the professional portfolio I manage, I began to drift away from that approach. In 2008, I graduated with an MBA in Finance with a solid focus on investing and portfolio management.

Here’s a tiny summary of what I learned about investing:

• Although not totally efficient, the market is efficient enough to make it difficult to beat over the long term.
• Most successful managers fail to beat the market consistently over many years.
• An investor’s asset allocation accounts for about 90% of his/her returns. (That means the types of assets you choose are more important than individual stocks or funds). WOW-that was a big one!
• Invest more in stock type investments for an opportunity for greater returns along with more volatility (or RISK).
• Greater investment in bonds usually yields lower returns with less RISK (except for the past few years).
• There is a slight bias of the market over the long term for small stocks & value stocks to beat the market averages.

All of these findings describe HISTORICAL generalizations, not the future.

As anyone who has read an investment ad or seen a commercial on TV knows, the past is not a predictor of the future!

Armed with this wonderful historical investment information and a bit weary of individual stock analysis and upkeep, in 2008 I began moving toward a diversified index fund/ETF portfolio.

(If you are unsure of the meaning of any of these terms, stop by Investorwords and get the definition.)

BACKGROUND and RISK TOLERANCE:

Before picking an asset allocation you need a general idea of how much up and down (RISK) you can stomach in the value of your investment portfolio. Then you also need to make sure to take these steps before you even think about investing.

My risk tolerance is a bit higher than average. I remain fairly impassionate about the drops in value of our investment portfolio and don’t tend to overreact to these market declines. That said, El Carino and I are in the mid section of our lives and so would be hard pressed to recoup a huge loss. Also, for psychological reasons, I like to have access to some cash in case I need it for anything; it reduces my anxiety.

PRACTICAL APPLICATION: The Friedberg Asset Allocation Unveiled

For those graph enthusiasts, here’s a pie chart of the asset allocation of our investment portfolio:

Guest post by Mark from Buy Like Buffet. He runs an independent investment advisory firm that provides personalized consulting services in investment and asset management.  His degree is in finance and he has worked in investment management for over 5 years. Additionally, Mark has have written articles for numerous financial sites and writes a monthly guest blog for FatWallet.com.

 Everyone knows that keeping up with in an individual stock can be a part time job. Investing in individual stocks requires that you monitor the performance of your investment on a consistent base. You have to read quarterly reports, listen to conference calls, and stay abreast of any material changes in your stock investment.  That’s a lot of work! There is an easier way to invest for individuals that would classify themselves as lazy investors. You can earn a nice return on your investment dollars over the long run by putting your investment portfolio on cruise control and using these “passive income ideas“.

 Here are 3 types of investments that a lazy investor would love.

 Target date funds

 Target date funds are one of the easiest ways to diversify your account portfolio. They have become the asset of choice for lazy investors because they automatically rebalance your portfolio every year. Target date funds take the burden of management off of the investor and places it squarely on the fund company.

 Target date funds have increased in popularity as investors are opting for the convenience of taking the responsibility of investing for retirement out of their hands. These funds split an investor’s money among stocks, bonds, and cash securities. Target date funds are very aggressive in an investor’s early years and become increasingly conservative the closer that you get to retirement. The rebalancing does come at a price however, as target date funds often have higher expense ratios than traditional mutual funds.

 Government bonds

 Government bonds are great investments during times when interest rates are high because they allow you to lock in those high interest rates for a long term time period. You can get exposure to government bonds through a Treasury index fund or a government bond fund. The easiest way to invest is to directly buy Treasury bonds, Treasury notes, and EE bonds. All of these securities can all be purchased with a small minimum investment of $100 or less.

 These bonds are most attractive to conservative investors because they accrue interest automatically and are guaranteed by the United States government. They are free from income taxes until redemption or maturity. All that you have to do is sit back and collect the interest payments!

In order to increase your average yield on CD’s and bonds, consider the advantages of laddering.

 (Barb’s comment: Although interest rates are presently at historical lows, it is unlikely these low rates are going to last much longer)

Index ETF’s

 Index exchange traded funds are a lazy investor’s dream. They have very low fees and do not require any action by the fund’s owner. An index ETF is a fund that tracks the movements of a particular index such as the Dow Jones, S&P 500, Wilshire 5000, Russell 200, total stock market and just about any other index that you would like to follow.

 Index ETF’s are an even cheaper investing option than index mutual funds. They typically have lower expense ratios and fees. Index ETF’s are a way to invest without having to worry about the performance of any one particular stock or sector. The advantage of index investing is that you can get the total return of the market as a whole without buying every stock individually.

 (Barb’s comment: one caveat, in some cases you must pay a commission when buying etf’s so they’re less suitable for dollar cost averaging)

Barb’s question: Weigh in, which of these investment’s have you tried? Any recommendations on the best 529 plan for educational expenses?

Stop by Yakezie.com  and check out  my recent article Make Money with an Internet Fast

image credit: ucumari

The Friedberg Family Portfolio Today

(For informational purposes only) 

“Of course. I favor passive investing for most investors, because markets are amazingly successful devices for incorporating information into stock prices.” Merton Miller

I love it when an economist espouses my opinion!  Short and sweet; this quote is the premise of the Friedberg personal portfolio.

In PART 1 of this series, I talked about my investing FEARS.

In PART 2 you learned how I began investing in individual stocks

MAIN TOPIC: The Story Unfolds

Today, the WHAT & WHY of the Friedberg family asset allocation is unveiled.

The bulk of our assets are held in LOW COST INDEX MUTUAL FUND’S OR ETF’S.

Although we still have a few individual stocks in our personal portfolio, they represent a very small percentage of the total. Additionally, there are some funds which are actively managed not index funds in old retirement accounts from prior jobs

This is not a post where you will see our net worth, but what I think is more important, you will learn the percent we allocate to certain asset classes and why.

After many years of researching individual stocks, buying and selling in both our personal family portfolio and the professional portfolio I manage, I began to drift away from that approach. In 2008 I graduated with an MBA in Finance having studied investing research quite a bit during my graduate studies.

Here’s a tiny summary of what I learned about investing:

• Although not totally efficient, the market is efficient enough to make it difficult to beat over the long term.
• Most successful managers fail to beat the market consistently over many years.
• An investor’s asset allocation accounts for about 90% of his/her returns. (That means the types of assets you choose are more important than individual stocks or funds). WOW-that was a big one!
• Invest more in stock type investments for an opportunity for greater returns along with more volatility (or RISK).
• Greater investment in bonds usually yields lower returns with less RISK (except for the past few years).
• There is a slight bias of the market over the long term for small stocks & value stocks to beat the market averages.

All of these findings describe HISTORICAL generalizations, not the future.

As anyone who has read an investment ad or seen a commercial on TV knows, the past is not a predictor of the future!

Armed with this wonderful historical investment information and a bit weary of individual stock analysis and upkeep, in 2008 I began moving toward a diversified index fund/ETF portfolio.

(If you are unsure of the meaning of any of these terms, stop by Investorwords and get the definition.)

BACKGROUND and RISK TOLERANCE:

Before picking an asset allocation you need a general idea of how much up and down (RISK) you can stomach in the value of your investment portfolio. Then you also need to make sure to take these steps before you even think about investing.

My risk tolerance is a bit higher than average. I remain fairly impassionate about the drops in value of our investment portfolio and don’t tend to overreact to these market declines. That said, El Carino and I are in the mid section of our lives and so would be hard pressed to recoup a huge loss. Also, for psychological reasons, I like to have access to some cash in case I need it for anything; it reduces my anxiety.

PRACTICAL APPLICATION: The Friedberg Asset Allocation Unveiled

For those graph enthusiasts, here’s a pie chart of the asset allocation of our investment portfolio: