Recently, a prospect contacted our offices for a comparison of investment values since Oct. 9, 2007 (last U.S. market highs as tracked by the S&P 500) versus values of today. His portfolio was in U.S. Government Bonds, and he tried to “pitch” their apparent “safety.”
He had no performance records prior to that infamous day nor did he seem concerned about the very different economic and market dynamics of today.
Bonds are like a glorified “IOU.” The “full faith and credit” of our government backs a guarantee to pay investors back their principal by a certain date with set interest. Sounds simple. But add potential inflation, taxes and the time value of money, and the perception of “safety” might change. Say you purchase a 10-year U.S. Government Bond with approximately 1.5 percent interest (local and state tax free) and hold this bond until it “matures” in 10 years. Your return may be reduced by a combination of federal taxes, inflation potentially exceeding 1.5 percent per year or the possibility of a declining dollar (yes, you would receive $10,000 back, but its purchasing power could be much less). You will likely pay brokerage and/or transaction fees for your investment. Furthermore, should you liquidate the bond before maturity, it may have gone down in value (there is no guarantee of principal for bonds liquidated before maturity). What’s a fearful investor to do?
It takes more than simplistic concepts to answer what drove the investor to bonds. Fear, perhaps, can lead an animal to instinctively save its life. Fear, as a behavioral reaction, can cause short-term, random and irrational decision making (like a driver over-correcting on the highway). So how do we manage that fear?
With clients across the country, we have helped manage our investors’ behaviors over 28 years. One stock portfolio we manage is structured to make tactical changes in reaction to movement in specific investment sectors. This “Momentum Portfolio” is the result of a very strict sequence of filters, designed to minimize risk and volatility, targeted to provide an above-market level of income, while attempting to provide liquidity, depending on market availability. Remember, past performance is no guarantee of future returns. Shares fluctuate with market conditions. Principal cannot be guaranteed.
Our actively managed “Momentum Portfolio” is meant to identify established, large-sized companies by focusing on specific sectors (e.g. health care, utilities, consumer defensive, etc.). A series of filters is applied. We look for stocks with a dividend in excess of 2.5 percent, a price-earnings ratio under 16.5 (a measure of a stock’s valuation), a standard deviation under 18 (a manner to measure volatility), a debt-equity ratio under 50 percent (a measure of the incidence of debt), a Beta under 0.5 (a manner to measure risk vs. volatility), revenue growth exceeding 10 percent per year, etc. The purpose of this portfolio is to identify what we regard as “momentum” during market cycles and capture potential opportunities through tactical changes. Our portfolio does not receive the same tax benefits and may be subject to federal, state and local taxation depending on account registration. There is also a 1.5 percent annual fee for investing in this particular portfolio.
There is no doubt, challenging times demand that professionals stay true to their strategy, but roll up their sleeves to make tactical changes — when changes are needed!
Important note: The bond market is generally volatile. Fixed income securities carry interest rate risk, inflation risk and credit and default risks. No investment strategy can ensure a profit or protect against loss. Indices are unmanaged and cannot be invested into directly. Opinions expressed herein are not necessarily those of NPC.
Allen Ostrofe, MBA CFP® is president of Ostrofe Financial Consultants, Inc., a fee-based Registered Investment Advisor. For questions or suggestions, contact Allen Ostrofe at (530) 273-4425 or email firstname.lastname@example.org. Branch address: 565 Brunswick Road, Suite 15, Grass Valley.