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Are You Dreading Your Annual Portfolio Review?

For many investors, the thought of reviewing the performance of their portfolio over the past year is about as appealing as having to go down to the basement to investigate the source of that foul smell: you know you need to do it, but you dread what you’ll find.  

Still, it’s vital for your overall financial health to periodically review your portfolio, either on your own or with your financial planner (whose review usually covers many aspects of your personal finances, not just your portfolio). Besides, it may prove not to be as foul as you fear, especially if you keep the following points in mind.  

Review it the context of your overall finances. A portfolio is only one aspect of your overall finances. It should not be designed to beat the market, but to achieve your personal financial goals, which can mean quite different investment strategies. Consequently, if you make investment adjustments, do so because either your goals or financial circumstances have changed, not because the market winds are blowing one way or the other. 

Your portfolio is not an index. The Dow, the Nasdaq and the S&P 500 indexes have all suffered double-digit declines through the first three quarters of 2002—this on top of two previous down years. But that doesn’t necessarily mean your portfolio is down by double-digit numbers. You probably have investments that aren’t the large-cap and high-tech stocks reflected by these indexes. Many portfolios include bonds, which have provided strong positive returns through this period, and cash equivalents, which have produced small positive returns during a low-inflation period. Some investors hold real estate, which also has had strong positive returns. So unless you’ve invested only in large-cap and high-tech stocks, you undoubtedly have winners to help offset the losers.  

Diversification still works. By its very design, a properly diversified portfolio will have winners and losers. That’s because the performance of a particular type of asset typically doesn’t correlate with the performance of other assets for any given market and economic condition.  

At a recent financial planning conference, well-known investment expert Roger Gibson illustrated this principle with an update of his famous charts showing the performance of combinations of four equity categories: the S&P 500, international stocks, commodities and real estate. Despite the current bear market, the results reconfirmed what Gibson has long asserted: the combinations of two or more of the investment categories outperform, over the long run, the performance of any single category, while at the same time reducing portfolio volatility.  

Be consistent in how you use benchmarks. As noted before, investors often inappropriately judge their entire portfolio against a single-asset-category index such as the S&P 500. Furthermore, many investors not only complained when their portfolio underperformed the market during the boom years, they remain dissatisfied in the down market even though their portfolio has not lost as much as the market. Yet one objective of a well-diversified portfolio is to minimize the ups and downs. 

Focus on the whole, not just the bad parts. Part of the anxiety of so many investors stems from focusing on the down numbers they see in their individual monthly brokerage or mutual fund statements. Again, don’t focus on the parts; focus on the entire portfolio during your annual review.  

Focus on the long term. The current bear market, now nearly three years old, has been a deeper and longer bear market than most. Yet you should be investing for goals that are 10, 20, 30 years away—enough time to recover from this decline and gain from the next bull market. 

Rebalance if necessary. One key purpose of a portfolio performance review is to see whether you need to rebalance your assets so that they match your intended asset allocation. Say that for the last several years you’ve used an asset allocation of 65 percent stocks, 25 percent bonds and 10 percent cash, and that for your long-term goals and risk tolerance that allocation is still appropriate. Yet in the current market, stocks may make up significantly less than 65 percent and bonds considerably more. You’ll want to bring those allocations back into line either by selling some bonds and buying stocks, or buying only stocks with fresh dollars you invest.

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Any information contained on this site does not constitute financial advice. The Website is intended to provide general information only and does not attempt to give you advice that relates to your specific circumstances. You are advised to discuss your specific requirements with an independent financial adviser licensed in your state.

We do not offer legal advice. All information provided on this website is for informational purposes only and is not a substitute for proper legal advice. If you have legal questions, we recommend that you seek the advice of legal professionals.

IRS Circular 230 Disclaimer: To ensure compliance with IRS Circular 230, any U.S. federal tax advice provided in this communication is not intended or written to be used, and it cannot be used by the recipient or any other taxpayer (i) for the purpose of avoiding tax penalties that may be imposed on the recipient or any other taxpayer under the Internal Revenue Code, or (ii) in promoting, marketing or recommending to another party a partnership or other entity, investment plan, arrangement or other transaction addressed herein.

Asset allocation, diversification and rebalancing do not assure a profit or protect against loss in declining markets. Investing in securities involves risks, and there is always the potential of losing money when you invest in securities. Past performance is no guarantee of future results.

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Last modified: 05/11/10