TWO YEARS INTO BULL, PORTFOLIO LESSONS STILL APPLY

by Charles Rotblut

 

The second anniversary of the bull market is a good time for investors to review.

Investors who maintained their allocations to stocks in the face of the financial abyss have mostly benefited from the rebound. Those who sold too late into the bear market and then waited for clear signs that a rebound was underway have likely trailed the performance of the large-cap index.

In hindsight, the ideal strategy would have been to sell stocks in the first half of 2007 and bought stocks early in 2009. To do so, however, would have required making two correct market calls–a task that would have been extremely difficult. Repeating this feat in the future is practically impossible.

The only alternative for investors was, and continues to be, diversification and rebalancing. Since no one can predict what the best-performing asset class will be in the future, diversification increases the odds of being in the right asset class at the right time. Rebalancing forces you to buy low and sell high–you take profits from the best-performing asset class and seek bargains in the worst-performing asset class.

It’s not a perfect strategy. Rebalancing and diversification would have only cushioned the blow of the last bear market, not prevented your portfolio from losing money. It also would have lowered your participation in the second year of the current stock rally.

Yet consider your alternatives. Correctly timing the market on a consistent basis is impossible. If you are too late with your buy and sell decisions, you could end up locking in big losses and missing out on big rebounds. 

Conversely, if you choose to do nothing, you toss your portfolio to the whims of the market. This actually causes you to experience more volatility and worse performance than if you simply rebalanced once a year. Options can provide a hedge, but they also hurt returns due to commissions and the probability that they will expire worthless.

Plus, exercising a put option (a contract to sell a security at a set price within a given time period) subjects you to the risks of market timing.

Investing is messy and the future is always uncertain. The best you can do is to proactively manage your portfolio. In other words, control what you can control, and try not to worry too much about the rest.

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