Importance of Asset Allocation

What is an Asset Class? What is Asset Allocation? How should you determine your Target Asset Allocation?

If you read my blog often enough, and have started to think I qualify everything I write about as ‘most important’ – then you are mistaken (and partly it is my fault). I might be saying those things in a different context.

For example, when I say compounding is your biggest friend, I mean it, but keep in mind that compounding happens over a period of time. When I say Asset Allocation is the most important factor in determining long term returns, I do not mean to say asset allocation is more important than compounding.

Things apart from Asset Allocation are important too, specially how much you save and how soon you start to save, how much expenses do you have etc; but once you have started to save/ invest, Asset Allocation is what will be a primary driver of your long-term returns.

What is Asset Allocation?

Asset Allocation is simply how your portfolio (money) is divided into various Asset Classes.

If you do not understand big jargon like Asset Allocation and Asset Class (and some others) we are talking about today, please do not be discouraged, read till the end. I am introducing these terms so that you can interpret and understand host of information that is available on the internet on this topic.

I could have explained the basics even without using any jargon but I want you to be able to read that Wall Street Journal article with confidence the next time you see it, so getting familiar with the jargon is essential.

What is an Asset Class?

An asset class is a group of ‘investments’ that share riskiness and return. Three main asset classes in stock market are stocks, bonds, and cash. Let us focus on stocks and bonds for now. Stocks are more risky but provide higher returns long term.

By risky, I mean the returns on stocks are more volatile – they might return 25% in a single year but might lose 25% of the value also in a given year. But over a long period of time, their annualized returns are most likely going to be higher than bonds.
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Personal Capital – review (my experience)

Today I will share my review of being a Personal Capital user for 3 years – the good, the bad, and the conclusion.

Overview

Personal Capital website allows you to create an account on their website and map all your investment and cash accounts to your personal capital account. You can map your IRA, Roth IRA, regular trading account, your SEP IRA, your joint trading account, and even your checking account to your Personal Capital account.

Personal Capital Benefits

  1. Asset Allocation (Holistic picture)

In today’s day and age, it is natural to have several investment accounts. In addition, you might be managing your finances at the household level and suddenly you have your spouses accounts to monitor too. As an investor, it is critical for you to know how your portfolio looks at the aggregate level.

Personal Capital - Target Asset Allocation

Personal Capital – Target Asset Allocation

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Real estate versus stock market

Today we will compare real estate versus the stock market – based on 11 different factors, including rate of return, tax benefits, use of leverage, effort requirements, and chances of making mistakes.

If you have never wondered how real estate investing compares with stock market investing, then you haven’t taken up investing seriously yet. Following are the 11 factors that I have compared for the two most common investment avenues – real estate and the stock market.

Real estate versus stock market

Let us first understand these 11 factors and then do the comparison.

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Is it possible to time the market?

Can you time the market? In my opinion, you just cannot time the market. Today we will explore this topic first conceptually and then with a detailed example taking S&P 500 data from 6,848 trading sessions from 1988 – 2015.

Let us first understand this conceptually – there are millions of players (traders, investors, institutions) in the stock market and what is it that you know/ can analyze that none of them has already done? So, in my opinion, markets are almost always trading at a fair value.

For a long term disciplined investor, it hardly matters whether he/ she attempts to time the market or just keep buying regularly without worrying about the highs and the lows.

Time the market

To illustrate my point mathematically, I took S&P 500 total index from 6/1/1988 to 7/31/2015.

As soon as I had the data in Excel, I could not resist the temptation to see how much S&P 500 has returned over this 27 years 2 month period (we could call it 27 years from now on for simplicity). The answer is 10.3% – S&P 500 returns have averaged 10.3% over these 27 years (1988 – 2015).

Now coming back to people who want to time the market – there are many professionals around me who keep Continue reading

Investing in Commodities

A friend of mine asked me today “Should I invest in Gold“? We had a long conversation and I think the following parts of the discussion will be useful to the readers:

My view: Gold will not make money over the long term. I always say ‘People with a long term view should buy S&P 500 and forget about it’. I cannot say the same about Gold. In my opinion, Gold will never deliver above average market returns.

The immediate question I am often asked is – then why do people invest in Gold? The main reason is ‘People are hedging their bets’. They believe Gold prices rise when stock prices fall.

Let us expand our discussion to talk about Commodities (Gold is a commodity. Other examples of commodities include Coffee, Copper, Silver, Aluminum).

The conceptual difference between Corporations and Commodities – if you own shares of Microsoft, you own Continue reading