Basic Principles of Investing


Portfolio Management

Now that you have taken the time to carefully select the investments that fit your goals and risk tolerance, it is your responsibility to manage your portfolio.

Reallocating or Rebalancing Your Investments

When you have your own asset allocation prepared, you will have a recommended portfolio that resembles a pie. Each piece of the pie represents a certain investment. Each investment will have a certain percentage assigned to it.

When your portfolio is built, everything will fit into those percentages very nicely. But your stocks aren't going to grow at the same rate as your bonds, and vice versa. After a while, one asset category might appreciate more than another, causing the balance of your asset allocation to no longer be the same as the original percentages you thought you were investing in. For example, let's say your original asset allocation plan was to invest 70% in stocks, 20% in bonds, and 10% in cash and cash alternatives. After a while, the stocks in your portfolio outperform other investments, and now your portfolio comprises 85% stocks, 10% bonds, and 5% cash. Now your percentage of stocks represents a bigger piece of your original target allocation, exposing you to increased risk.

When this imbalance occurs, you reallocate. That means you sell a portion of the asset classes that did well and you buy some more of the asset classes that didn't, so you can get back to your original percentages. (This doesn't necessarily mean that you put more money into a fund that's performing badly. You may choose to get back to your original percentages by investing in new funds in the same asset class.)

This concept is difficult to swallow—why wouldn't you want to buy more of the investments that performed well?

If you buy more of an investment that's had a bad year, you may be buying low, and if you sell one that's had a good year, you may be selling high. If you reallocate your portfolio once a year, over the long run you will be buying low and selling high. Some believe that you should monitor and rebalance your asset allocation whenever one category fluctuates by 5–10%, while others suggest annual rebalancing.

You need to understand how often you should review your portfolio. And you need to know about some of the sources of information that are available to you as you manage your portfolio.

How Often Should You Review Your Portfolio?

You should review your portfolio thoroughly every year. You also may want to review it when things change in your life; for instance, maybe you're getting divorced or are close to retiring. Here is a list of some other circumstances that should prompt review:

  • Substantial decline or rise in the stock market
  • Change in tax laws
  • Significant change in the price of a stock or bond

When Do You Sell an Investment?

You may want to think about selling an investment when:

  • Your objectives change. You've had a growth portfolio, for example, and you're retired and now must sell some of your growth funds and buy income funds.
  • Your investment does much worse than others like it for a period of a year or more.
  • The economy has changed in a way that's not likely to favor this investment in the future. Your investment is in coal, for example, and new EPA regulations would be making it tough for the coal industry.
  • For mutual funds:
    • Your old fund manager leaves and is replaced by an unknown fund manager.
    • The fund changes its objectives. It used to buy utility stocks, for instance, and now it is into high tech.
    • The fund's performance is adequate but its expenses are much higher than others' like it.

The Pitfalls of Trying to Time the Market

It is human nature to panic when you see your hard earned money invested in something that drops in value. Your heart sinks and you may kick yourself for thinking you made a poor decision. Prudent investors realize that the market will ebb and flow, like the ocean tide. Ride the waves and you'll likely see your money grow in the long run.

Market timing also makes it likely that you won't be in the market when you really need to be—on those days when the market performs very well, and people who are already invested reap the benefits. Consider these statistics from Ibbotson Associates Inc.:

  • There were 4,533 trading days from 1985 to 2002
  • If you'd been invested in an S&P 500 index for all 4,533 days, your average annual return would have been 9.7%.
  • If you'd missed the ten best trading days in those 17 years, your average annual return would have been reduced to 6.4%.
  • And if you'd missed the 15 best days, your return would have been lowered to only 5.3%.
  • The 15 best days out of the 4,533 trading days during the last 17 years accounted for approximately 46% of the compounded annual return during that time frame.

NOTE: Keep in mind that past performance is no guarantee of future results.

Only by staying invested in stocks through the entire 17-year period could you have been sure to get market exposure during those crucial "up" days.

If you are a market timer, you believe that you can predict when every good day will be. But in reality, jumping in and out of the market increases the odds that you will be out of the market exactly when you should be in it—when you could be earning the most on your investments.

Follow Your Fund's Performance

Although you shouldn't panic when the market fluctuates, don't make the mistake of investing in something and then ignoring changes in the business climate, the investment itself, or changes in your own life that would make it wise to sell. Smart investors will pay attention to the results of their portfolio. They reevaluate their portfolio on a regular basis, and are willing to make changes.

IMPORTANT NOTE: Don't get into more investments than you can monitor. To diversify fully, you may be tempted to own too many investments. Remember that sometimes, less can be more. Sticking with a few mutual funds should accomplish your goal of diversification and make monitoring easier. Investing in a host of individual stocks can make the most prudent investor crazy. Make your portfolio only as complicated as you can easily handle.

Avoid Following the Market Too Closely

However, try not to watch all your investments fluctuate on a daily basis. People tend to become obsessive when they see their investments lose value. Remember that if you are investing for the long term, you may not want to move your money around constantly in an effort to stay ahead of the market.

Keep in mind that by dollar-cost–averaging you are benefiting from investing your money gradually. Because you are buying investments at different price levels, you are compensating for the ebbs and flows of the market.

Sources of Information

Most investments have informational documents called prospectuses. The prospectus provides you with valuable information about the particular investment you are considering. A mutual fund prospectus will tell you about the fund's holdings, its manager, and its philosophy. You will get information there that you won't get anywhere else. Make sure you read the prospectus before you invest.

An investment professional with a reputable company will have a wide variety of resources at his or her disposal. In today's complicated world, a working relationship with an investment counselor can be beneficial. Being a do-it-yourselfer is not always the best approach, especially if your time or level of knowledge is limited.

IMPORTANT NOTE: Build an investment strategy for the long-term. Be cautious of "fund of the month" magazine articles. Funds that soar this year may end up at the bottom of the heap next year. Instead, look for articles that highlight funds with good long-term track records - in both up and down markets.


Share Article:


*Non-deposit investment products and services are offered through Sorrento Pacific Financial, LLC ("SPF"), a registered broker-dealer (Member FINRA/SIPC) and SEC Registered Investment Advisor. Products offered through SPF: are not FDIC or otherwise federally insured, are not a deposit or guarantee of the bank, and may involve investment risk including possible loss of principal. Investment Representatives are registered through SPF. The bank has contracted with SPF to make non-deposit investment products and services available to bank clients.

*Non-deposit investment products and services are offered through Sorrento Pacific Financial, LLC ("SPF"), a registered broker-dealer (Member FINRA/SIPC) and SEC Registered Investment Advisor. Products offered through SPF: are not FDIC or otherwise federally insured, are not a deposit or guarantee of the bank, and may involve investment risk including possible loss of principal. Investment Representatives are registered through SPF. The bank has contracted with SPF to make non-deposit investment products and services available to bank clients.