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 Post subject: asset allocation
PostPosted: Sat Jun 09, 2007 12:35 pm 

Joined: Thu Apr 19, 2007 7:58 am
Posts: 231
I'm at a point where I'm looking to balance my assets. Help me out here if you will.
I need to determine my % of stock vs bond/cash allocation
Within stocks I need to determine % of small/mid/large cap, foreign

In what category do target/lifestyle funds lie?

Am I missing categories?


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 Post subject: Re: asset allocation
PostPosted: Sat Jun 09, 2007 1:04 pm 
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Posts: 859
Location: Portland, OR
sandycheeks wrote:
I'm at a point where I'm looking to balance my assets. Help me out here if you will.
I need to determine my % of stock vs bond/cash allocation
Within stocks I need to determine % of small/mid/large cap, foreign

In what category do target/lifestyle funds lie?

Am I missing categories?


Target/Lifestyle funds (name depends on company) are meant to be your only holding. They are completely diversified with an appropriate asset allocation based on your retirement date. When you hold other investments at the same time you're just messing with their asset allocation - which may be fine, but you should be aware of it.

A quick rule of thumb for stock/bond alloction is 120-age = % in stock. This may be too conservative or too agressive, depending on your risk tolerance.

The 5 main categories are: Small, Mid, Large, International, Bond - which is why you really only need a total of 5 mutual funds to be diversified. You can also get into growth vs value and sectors, but generally it's just the 5.

You can do a search for asset allocation quiz and that should give you an idea of what yours should be based on timeline, risk tolerance, etc. I would take a few from a few different places and then come up with what sounds good to you. Personally, I'm an agressive investor so I have over 50% of my money in international and 0 in bonds. Of ramaining balance, about 25% of that is in small cap and the rest is split between Large and Mid. I'm 33. I would NEVER suggest anyone invest like me...my allocation is appropriate for me and my risk tolerance and would freak many people out. :-)

So, learn about it, take some quizzes and then figure out what works for you. OR, pick one target fund and be done with it. OR, pick a total domestic fund, a total international fund and a total bond fund and come up with an allocation that you are comfortable with. Whichever works for you.


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PostPosted: Mon Jun 11, 2007 12:57 pm 
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Location: Houston, TX
Real-estate (probably via a REIT) is another valid category.

The unasked question in your post, what are the appropriate allocations (balance) for you, requires more information about you.

(As noted in my Disclosures, I'm 35 and have a similar allocation to Mandy- 0% Bond.)

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PostPosted: Mon Jun 18, 2007 9:02 am 

Joined: Thu Apr 19, 2007 7:58 am
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After giving some more thought to this I'd like additional feedback.

I'm married, in my early 30's with 2 dependants. Thisnking of:

% 90/10 equities/bond

Of the equities % 40 large cap 20 mid 20 small 10 international or 5 international/5 REIT

Is this a conservative mix? Not enough risk, too much? Of course ultimately I will need to decide my risk tolerance but I don't know where in the spectrum this allocation is.


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PostPosted: Mon Jun 18, 2007 9:31 am 
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Location: Portland, OR
sandycheeks wrote:
After giving some more thought to this I'd like additional feedback.

I'm married, in my early 30's with 2 dependants. Thisnking of:

% 90/10 equities/bond

Of the equities % 40 large cap 20 mid 20 small 10 international or 5 international/5 REIT

Is this a conservative mix? Not enough risk, too much? Of course ultimately I will need to decide my risk tolerance but I don't know where in the spectrum this allocation is.


I think that is probably an appropriate mix for someone in your age range unless you are comfortable with high risk investments. Personally, I would be much heavier in international (probably closer to 30%) than large cap because the US is struggling and I don't see that changing any time soon, if ever. We are only one country out of 100+ so having 90% of your money here isn't great diversification.


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PostPosted: Mon Jun 18, 2007 1:54 pm 

Joined: Sun Jun 10, 2007 3:19 pm
Posts: 620
My asset allocation for my retirement funds is:

30% large cap (S&P 500 index, 401k)
20% mid cap (Russell 400 mid cap index, 401k)
20% small cap (a socially responsible managed mutual fund; my Roth account)
20% international (managed mutual fund, 401k)

I have no bonds. I don't know if this is stupid or not, but I'm only 31 and have no dependents, and interest rates are rising. I do have a fairly large cash cushion.

The Roth account is by far the most speculative of my funds. I kind of consider it my "fun" money. If it does really well, I may take out some of my contributions as part of a down payment on a house.


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PostPosted: Mon Jun 18, 2007 2:29 pm 
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Location: Houston, TX
sandycheeks wrote:
After giving some more thought to this I'd like additional feedback.

I'm married, in my early 30's with 2 dependants. Thisnking of:

% 90/10 equities/bond

Of the equities % 40 large cap 20 mid 20 small 10 international or 5 international/5 REIT

Is this a conservative mix? Not enough risk, too much? Of course ultimately I will need to decide my risk tolerance but I don't know where in the spectrum this allocation is.

Assuming this is in your retirement accounts and you won't be touching it for 30 years, I think this is at the conservative end of the spectrum. Despite the "conventional wisdom" (i.e. 120 minus Age = %Equities), I think this is conservative. Furthermore, within your equities allocation you've chosen conservatively, putting the biggest chunk into the least risky category.

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Read my 'fiscal fitness' financial disclosures here.


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PostPosted: Mon Jun 18, 2007 6:26 pm 
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Location: Washington, DC
There is room for individuality here. I personally feel more comfortable with a 20% bond allocation, and I'm only 24. That is about as aggressive as I want to be. There is data from the past century or so that says that kind of bond allocation can significantly reduce risk without cutting too much into overall growth when compared to all-stock portfolios.


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PostPosted: Mon Jun 18, 2007 6:42 pm 
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UprightPolity wrote:
There is room for individuality here. I personally feel more comfortable with a 20% bond allocation, and I'm only 24. That is about as aggressive as I want to be. There is data from the past century or so that says that kind of bond allocation can significantly reduce risk without cutting too much into overall growth when compared to all-stock portfolios.


yep, it's all about what you're comfortable with. though i will say...20% for someone in their mid 20s is REALLY conservative. Don't forget that the bond estimation has changed from 100-age to 120-age.

I'm not sure when/how you plan to go more conservative, but be really careful you don't get too conservative too quickly. Personally I probably won't be 20% bonds until I'm in my 50s or 60s - depending on when i plan to retire.


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PostPosted: Mon Jun 18, 2007 7:03 pm 
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pf101 wrote:
yep, it's all about what you're comfortable with. though i will say...20% for someone in their mid 20s is REALLY conservative. Don't forget that the bond estimation has changed from 100-age to 120-age.

I'm not sure when/how you plan to go more conservative, but be really careful you don't get too conservative too quickly. Personally I probably won't be 20% bonds until I'm in my 50s or 60s - depending on when i plan to retire.


Don't forget that it briefly paused at 110-age in between there, not too long ago! :P

It seems to me that the "rule" changed mostly because lifecycle funds got hugely popular, lifecycle fund managers started to compete on short-term performance, and the bull market of 2003-present meant that bond allocations dropped across the board. I haven't seen anything to indicate that dropping 10% of my bond allocation will get me just enough more savings to retire comfortably.

My plan right now is to stick with 80/20 until at least my mid/late-thirties, go 70/30 at 40, and adjust by 5% every five years from there.


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PostPosted: Mon Jun 18, 2007 7:27 pm 
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UprightPolity wrote:
Don't forget that it briefly paused at 110-age in between there, not too long ago! :P

It seems to me that the "rule" changed mostly because lifecycle funds got hugely popular, lifecycle fund managers started to compete on short-term performance, and the bull market of 2003-present meant that bond allocations dropped across the board. I haven't seen anything to indicate that dropping 10% of my bond allocation will get me just enough more savings to retire comfortably.

My plan right now is to stick with 80/20 until at least my mid/late-thirties, go 70/30 at 40, and adjust by 5% every five years from there.


Wow, you're really conservative and plan to get even more so relatively quickly. IMO, you're at serious risk of not having enough to retire on unless you save a LOT to make up for the reduced return. Most articles I've read lately indicate that staying up to 70% in stocks into your 70s is appropriate because you could realistically live for another 20 years.

The rule of thumb didn't change because of target funds, it changed because of life expectancy. Not too long ago, people retired at 55 and died at 65. Now people are retiring at 65 and living until 95. With our generation it will be more like live until 105. That's an extra 20-30 years of living. Basically you have about 30-40 years of time to save and then 30-40 years of living on those savings which is a LONG time to rely on a savings account unless you keep it growing pretty agressively.

I personally think that the target funds are conservative and you're even more conservative than that. Be really careful.


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PostPosted: Mon Jun 18, 2007 7:45 pm 
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pf101 wrote:
Wow, you're really conservative and plan to get even more so relatively quickly. IMO, you're at serious risk of not having enough to retire on unless you save a LOT to make up for the reduced return. Most articles I've read lately indicate that staying up to 70% in stocks into your 70s is appropriate because you could realistically live for another 20 years.

The rule of thumb didn't change because of target funds, it changed because of life expectancy. Not too long ago, people retired at 55 and died at 65. Now people are retiring at 65 and living until 95. With our generation it will be more like live until 105. That's an extra 20-30 years of living. Basically you have about 30-40 years of time to save and then 30-40 years of living on those savings which is a LONG time to rely on a savings account unless you keep it growing pretty agressively.

I personally think that the target funds are conservative and you're even more conservative than that. Be really careful.


I should have clarified that I don't plan on taking this to its ultimate conclusion -- going 30/70 or some other insanity.

110-minus age works for me right now, with maybe 20% and 40% bonds as my theoretical lower and upper limits.


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PostPosted: Mon Jun 18, 2007 11:40 pm 

Joined: Sat Apr 07, 2007 2:03 am
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Location: Taishan, Guangdong, China
Asset allocation is a rather deep topic. I'd definitely suggest hitting up Google and reading different philosophies to develop a strategy that fits your own preferences. The allocation tree looks roughly like so:

Code:
STOCKS
    |
REGION (domestic, developed international, emerging markets)
    |
SIZE (large, small)
    |
STYLE (growth, value)


BONDS
   |
DURATON (short, medium, long)
   |
CREDIT/MARKET RISK (treasury, tips, mortgage, corp, high-yield corp)
   |
REGION (domestic, developed international, emerging markets)


REITS
   |
TYPE (residential, retail, office)
   |
REGION (domestic, developed international, emerging markets)


COMMODITIES
   |
TYPE (energy, precious metals, agriculture, materials)


You can decide your allocation plan at any level of the tree or even skip a branch or two. Simple plans are easier to implement and for more people, set it and forget it is the best policy. However, there are definite benefits for detailed slicing and dicing.

First benefit is not all asset classes are equally tax efficient. If all of your investments are in some type of retirement plan, then it makes no difference -- simply mirror the same ratio in all your accounts. But if you do have both taxable and tax-deferred/tax-free accounts, the optimal solution is to put tax-inefficient investments into retirement plans and tax-efficient ones into taxable to decrease the tax drag. Examples of tax inefficient would be Bonds, REITS, Commodities and Small Value. Tax efficient classes would be Large Growth, Small Growth, Muni Bonds. (Large Value is somewhere in the middle.)

The second benefit of having detailed breakouts is to take advantage of asset cycles. Let's consider an easy example. If you take 50/50 LG+LV, you pretty much end up tracking the S&P500 (Large Blend). Suppose LG went up 50% year 1 and then dropped back down in year 2. Then LV repeated this pattern year 3 + 4. Somebody holding the LB would end up with no change after 4 years. You would also have the same effect by holding 50/50 LG+LV and not rebalancing.

Code:
   LG  LV  (tot)
y1 1.5 1.0 (2.5)
y2 1.0 1.0 (2.0)
y3 1.0 1.5 (2.5)
y4 1.0 1.0 (2.0)


Now let's look at the math when you rebalance:

Code:
   LG   LV   (tot)
y1 1.25 1.25 (2.5)
y2 1.09 1.09 (2.2)
y3 1.37 1.37 (2.7)
y4 1.19 1.19 (2.4)


By cashing some of the profit each time during each boom/bust cycle, we've turned what is an overall no-growth for the S&P500 into a 20% return for your portfolio. This is precisely what happened this past decade plus. During 95-99, LG was hot -- tech stocks, dotcom, networking. During 00-02, both LG and LV had losses (although LV's losses were much less). Since then, LV has rebounded big time while LG has barely limped along.

You can find many examples of boom/bust market segments as the market is rather irrational over the short term. Why not slice and dice as detailed as possible to take advantage of all bubbles? Well not all segments are available -- either at low expenses or at all. You can't rebalance China small value versus India SV versus Mexico SV as part of the overall Emerging Market SV allocation because the products just aren't available. Even if they were available, you would need a pretty big portfolio for such small slices to meet minimum fund requirements or decrease trading fee %. Fine-grained AA also means rebalancing can cause taxable turnover if your holdings are not 100% in retirement accounts. So while you can develop a high detailed AA plan, don't be afraid to rollup similar classes together if the products aren't available to you to capture those classes.


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