Diversified Portfolios Are Difficult To Construct

Consider what is required to invest in this typical diversified portfolio recommended by Buckingham Asset Management. This recommendation will cost you $1200/yr or 1.25% of your invested assets.

Buckinham Advisory Portfolio

The portfolio was one of eight commissioned by Marketwatch to see what 4 Robo Advisors would recommend for a 35 year old client versus what 4 human advisors would recommend. The selected portfolio was one of the few that had 5 or fewer securities in the recommended portfolio. None of the eight diversified portfolios outperformed the single index fund, VTI.

Problems with Implementing the above portfolio

  1. Buckingham Asset Management would not touch you if you were just starting; i.e. if your portfolio was not at least $100,000.
  2. They would charge you $1200 a year for the privilege of giving you the above recommendation.
  3. Each “recommended” fund has a minimum investment amount. The total for the five funds is $14,500. That’s how much you need to start this recommended portfolio.
  4. Figure out how to best allocate your monthly investment among 5 different funds and maintain the percentages. Remember, you can only buy whole shares.

OR …. Do It Yourself

Choices

What asset classes/sectors/categories/styles will you have in your portfolio?

  • Asset Class: Domestic Securities, Int’l Securities, Bonds, Commodities, Cash
  • Style: Large Cap Growth, ….. Small Cap Value
  • Sector: Energy, Health Care, Utilities, Real Estate
  • Category:

What Weights Will Be Assigned?

Once you have determined what asset classes/sectors/categories/styles you want to invest in, you have to decide what percentage of each investment will be directed toward each category. This is called “weighting”. The weights assigned SIGNIFICANTLY affect the performance results of your portfolio.

There is nowhere you can learn what some “optimal” weighting might be, because there is no known optimal weighting. Traditionalists will say it depends on your ability to withstand the ups and DOWNS of the market without selling everything.

What Securities Should Be In Your Portfolio?

Below is a listing of all the investment products that are available to you when constructing your diversified portfolio.Funds that invest primarily in other mutual funds are excluded from the count. Each product theoretically requires a “yes-no” decision on your part; whether you realize it or not.

7,596 mutual funds (excludes the 490 funds that “died” during the year. 2012).
602 Closed End Funds
1194 ETFs
373 index funds (103 track S&P500) but 873 “Share Classes”
5787 Unit Investment Trusts
1623 Share Classes of money market funds
2,846 “retirement” fund share classes
2599 “target date” fund share classes

Total Number of decisions: 22,620

73.243 mutual funds world wide
Source: 2013 Investment Company Fact Book published by Investment Company Institute

Too Much Work, Costly

Now that you have selected, let’s say, six funds for your diversified portfolio, you will have to make six purchases each month. If you haven’t automated your retirement plan (as advised by this website), then the task could easily be “put off this month”. In addition, each purchase will incur a trading fee. The six fees could be a sizeable proportion of your total monthly investment. And, for what reason? You aren’t going to do any better than if you had just purchased VIA only.

CASE STUDY

IFR Founder’s Attempt at A Diversified Portfolio

Back in the day, 2007 to be specific I thought I had learned all there was to know about diversification. I opened an account at Sharebuilder.com and began periodically investing in a well diversified (small cap, real estate, international, commodities, whole market) account.  Here are the results of that experiment:

TCS ShareBuilder Acct, 2007

Bottom line on my efforts… DIA (proxy for VTI)  returned 11% vs -12% for my Sharebuilder account over the same time period.

Conclusion

The permutations and combinations of types, weights and securities is infinite. Constructing a diversified portfolio that can consistently outperform the Dow or the S&P500  is not for sissies. Starting from ground zero with little knowledge of the stock market is not conducive to success.

Seeking out a professional “investment advisor” is not a solution. Often you will be placed into funds that feathers the pockets of the investment advisor via advisor’s fee, front-end load funds, in-house funds with high management fees, kick-backs from fund providers, etc. See Investment Advisors Cost A Lot for proof of this assertion.

And, as we have seen, there are many “professionals” who have not done a good job; AmSouth, Oxford Community Foundation, et. al. come to mind. Hiring a professional investment advisor is not the answer. You will be put into a diversified portfolio with high fees abounding.

I am not saying that there aren’t Diversified Portfolios that may/can/do consistently outperform the market. I am saying that your chances of finding one, on your own, are slim. That is why I recommend forgetting about building a Diversified Portfolio and ‘settle” for the performance of just the Dow (VTI).

Return To “Why No Diversification

Return To “Evidence Based Proof of Plan

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