Tuesday, May 5, 2009

Think diversification. Think Simplicity. Think.

I am often amazed at the things people do with their own portfolios. I am not a financial advisor nor do I review other people's portfolio's as a "friend" on a regular basis. However, as soon a people hear that I have my blog at thedividendguyblog.com they inevitably ask me questions. And honestly, 9 times out of 10 I am amazed by what people have done in their portfolios.

As an example, one individual I was speaking with the other day is a highly educated professional working in a crazy high paying job with the responsibility for a high number of employees. To get to this level you need to be pretty smart. However, during a cup of coffee he told me what he had in his portfolio, which was low six figures. Here is a summary of what I can remember him telling me:

1. 5 U.S. banking stocks (approx 35% of his account)
2. 1 high yield bond mutual fund (approx 10% of his account)
3. A precious metals mutual fund (approx 25% of his account)
4. An emerging market mutual fund (Approx 30% of his account)

I kid you not. He had a really bad year last year when the market was tanking. The way I see it, he has a couple of different problems here. First, he is very undiversified. Holding only 5 stocks would be permissible if it were a small part of an well balanced asset allocation. Lots of company specific risk here. Second, high yield bond funds are not a fixed income alternative. They are very risky and do not offer the protection short-term government bonds have. Third, over 55% of his portfolio is in two of the riskiest asset classes available - precious metals and emerging markets. Fourth, there is only emerging markets and no broader diversification. Fifth, he is using mutual funds instead of index funds, which I am sure are more expensive.

I will stop there as I think you get the point. This is just plain stupid and goes against all common sense. Even the most uneducated investor would have to know that this is a bad portfolio right? Perhaps I am being too hopeful and naive as I am so passionate about investing. However , I still think that if this individual used some of his energy thinking about this portfolio for just a couple of minutes he would understand the issues here.

Investing is not rocket science. It does not take advanced degrees in finance or any other discipline to do it well. Most importantly, it just takes some common sense when putting a portfolio together. Think diversification. Think Simplicity. Think.

This article was written by The Dividend Guy. You may email questions or comments to me at info@thedividendguyblog.com.

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