Yahoo Finance Simplify Your Portfolio Without Sacrificing Returns
Where a portfolio's investments are concerned, less is probably more. Too many holdings can be difficult to manage, not to mention inefficient, with both problems leading to lower returns over time.
"If a portfolio is too complicated and there are too many moving parts, it may be difficult to track," says Bill Van Sant, senior vice president and managing director at Univest Wealth Management in Souderton, Pennsylvania.
An increased number of holdings can give an investor a false sense of confidence by creating the impression that the portfolio is diversified, Van Sant says. But underlying investments may not complement one another, or they may overlap and be overweighted in one or more sectors.
[See: The New Sector Funds: 10 Thematic ETFs.]
By simplifying a portfolio, investors will have a better idea of what they own and how that fits their investment strategy. "It's important to understand your time horizon -- which stocks you intend as long-term, mid-term or short-term," says Mark Farnan, president of Retirement Income Planning in Madison, Wisconsin.
With an unwieldy portfolio, you may be more prone to losing track of the timing for each investment and when to liquidate it. You might keep an investment longer than you should or sell it too soon. "If an investor doesn't understand something, they're less likely to hold it for the long term, which is the best way to invest successfully," says Daniel Shepard, founder and president of Oak Road Wealth Management in Lee's Summit, Missouri. The challenge lies in maintaining consistent returns as you pare down your portfolio.
Let your target asset allocation be your guide. Streamlining is not a license to indulge in emotional decision-making. "There's always a headline or news story that justifies a poor investment decision," says Thomas Hudson, director of investment research at Boston-based TFC Financial Management. But this is about long-term discipline, and to that end, investors are better served by having a clear asset allocation in mind and letting that target dictate their decisions, he says.
Van Sant says it's helpful to start with your time frame for investing and work backwards to determine how best to allocate your investments. For example, if your target is accumulating $1.5 million for retirement by age 65 and you're 35 years old with $150,000 in your portfolio, that's a $1.35 million gap you need to fill. Using your current savings rate, you can estimate the annual rate of return needed to reach your target. From there, you can determine whether you need to dedicate more, or less, of your portfolio to stocks to achieve your goal.
As you shape your target allocation, consider how each of your investments is supposed to further your overall portfolio growth, as that can help you determine which holdings are keepers and which ones to jettison. "Knowing where your money is allocated is part of the process, but knowing why you're invested in each instrument is critical in understanding your portfolio and keeping it simple," says Andy Whitaker, vice president of Gold Tree Financial in Jacksonville, Florida.
[See: 9 of the Market's Best Growth Stocks.]
Minimize overlap and mind the gaps. Having multiple funds in the same area of the market makes it tricky to figure out where your exposures are, Hudson says. You may not realize, for example, that you're loaded up on tech stocks. If they take a tumble, your portfolio could suffer magnified effects if it's overweight in technology. By the same token, you may be missing out on other sectors completely so fill in the cracks to meet your objectives.
If you have two funds that are similar, look at which one offers more protection against downside risk, Van Sant says. Consider what each fund holds, the asset class and the size of the holdings, rather than just returns. "Most people just look at short-term returns, and that's not the best way to make decisions on buying or selling securities."
The same scrutiny should be directed at new investments as they're added to a portfolio. Target-date funds, for example, may seem like an ideal way to streamline and diversify. The problem, says Whitaker, is that you lose control over the asset allocation, and you're "invested the way the industry thinks the average investor would allocate." In a rising-rate environment, for example, a near-term target-date fund could look conservative or feel safe, but it might be carrying too much interest rate risk because of the bond exposure.
An index fund or exchange-traded fund could reduce clutter while potentially carrying lower investment fees. What you must keep in mind, Farnan says, is that these are typically passive investments, which may affect your returns. "Index funds have been shown to outperform managed accounts sometimes, but not always," he says. If you're choosing index funds or ETFs, remember to weigh the lower costs against the fund's long-term performance.
Keep your hands on the wheel. Scaling back your portfolio is an ongoing process. An investor's time horizon changes with age, says Shepard. A person's risk tolerance and goals may also shift. "The things we think are important in our 20s and 30s may not matter in our 50s, 60s and beyond," he says.
Because of that, an investor's asset allocation may also have to evolve and move in sync with those changes. Automatic features in your investment plan, such as auto-rebalancing, can help keep your portfolio on track, but don't be completely hands-off. "Automated tools can help a great deal with managing a portfolio, but it's still wise to review your situation every so often," Hudson says.
[See: 9 Things to Know About Robo Advisors.]
He recommends reviewing your financial picture yearly and asking some basic questions about how much you're investing, where you're investing and whether any major life changes justify an adjustment to your portfolio. Getting married, having children or changing jobs, for instance, could require you to step in and restructure.
Being proactive about guiding your investments while leveraging automatic features can help keep your portfolio from becoming cluttered a second time.
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