Gauss Portfolio Update: 11 October 2012

Photograph:  St. Louis Arch captured by Lowell Herr

Next up for review is the Gauss Portfolio.  Since this is a smaller portfolio I do not use any of the growth ETFs.  Instead, I capture growth through the use of several blend asset classes.  As the portfolio grows I may open up the growth asset classes, although it hardly seems necessary since all the U.S. Equity asset classes are so highly correlated.  We cover all the equity asset classes by using VTI for the overall U.S. Equities ETF.

Dashboard:  All asset classes except small-cap blend are within the target limits and I have a limit order in place to pick up the few shares needed to bring that single holding into balance.  The Gauss is one of the ITARR model portfolios and all the critical ETFs are priced well above their 195-Day EMAs.  We can put this portfolio into "neglect" mode for another month. 

Portfolio Performance:  Like a number of other portfolios, the Gauss is trailing the critical benchmarks.  Two "Piotroski" stocks were added to this portfolio so we hope those additions will begin to make a difference over the next six to 12 months.

Kepler Portfolio Update: 11 October 2012

Little has changed in the Kepler Portfolio since the last update a month ago.  Several dividends were added and I purchase more shares of emerging markets (VWO), developed international (VEA), and commodities (DBC).  These were rebalancing moves and ITA readers will note that we need to do more rebalancing based on the following Dashboard.

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Ten Biggest Investor Mistakes – #3


Wealth Management – Mistake #3: Many investors are too conservative at an early age.

Don't load up your portfolio with bonds when you are in your twenties and you have forty years to save.

Let me illustrate this mistake with a real example. Husband and wife saved identical amounts during their working years.  The wife’s savings were divided almost equally between a portfolio of bonds and stocks. The husband’s portfolio contained only stocks. Upon retirement, the husband’s portfolio was worth approximately twice that of the wife. This example illustrates the reasons I tend to shun bonds or use them with caution. There is an argument to be made that the longer one invests, the greater the probability of a "Black Swan" or "Fat Tail" market event. Search for Zvi Bodie for more information.

Upon retirement, will you have a pension? Do you know the approximate monthly payout from that pension? If one can retire on a pension and social security, then the portfolio need not include bonds. One can read more about this position in William Bernstein’s second book, “The Four Pillars of Investing: Lessons for Building a Winning Portfolio.

Summary: Plan to live longer than you might expect and do not be too conservative when constructing your portfolio.

This portfolio was brought forward as too few readers picked up this blog when first published.  I also unlocked access.  Check for other mistakes investors make by using the Search engine.


Photograph:  Twin Rocks near Capitol Reef National Park – Utah.

Alternative Number One Portfolio

Photograph: Arch in St. Louis – captured by Tom Bishop of Denver.

In the following portfolio, slight adjustments are introduced.  First, I made the correction of using VO instead of VOE.  EXCEL automatically filled in the "E" when I intended to use the mid-cap blend ETF, VO.  In this allocation arrangement, U.S. Fixed Income, BND, is reduced from 17% to 12%.  In its place 5% is allocated to international distressed debt (PCY).  Domestic real estate, VNQ, is lowered by 100 basis points and we increase private equity, PSP, by 100 basis points.  In the following slides we have the Quantext Portfolio Planner (QPP) analysis and the correlations.

Another portfolio one can reference or use for comparison is the "Swensen Six" as analyzed over on Seeking Alpha.

QPP Analysis:  The following Strategic Asset Allocation plan raises the projected return to a little over 8%.  This meets the goal of exceeding the projection for the S&P 500 by 100 basis points.  We give up portfolio volatility as the projected standard deviation is now nearly 16.5% or 150 basis points higher than the desired upper limit.

The portfolio still lack diversification as indicated by the Diversification Metric (24%).  The desired goal for DM is at least 40%.  The Portfolio Autocorrelation is an acceptable value of 21.5%.  We like to keep this below 20%, but PA is the least significant metric.

Correlation Matrix:  We pick up a little more diversification with the addition of PCY.  However, most of the securities are still highly correlated.  Note the high correlations among the first five asset classes.

Test Portfolios Using Private Equity

This is the first of a series of test portfolios where ITA readers will find a few different ETFs, one being private equity (PSP).  This first portfolios has a standard array of ETFs.  I am using VV as a "pure-play" for large-cap blend.  Normally I do not use this ETF as it is not in TD Ameritrade's stable of commission free ETFs.  JNK is the high yield fixed income.  Since JNK has limited history, I cut the analysis time from the usual 60 months down to 56 months.

Readers new to QPP analysis need to know that the average annual return projection of 7.8% keys off an assumption that the S&P 500 will return an annualized 7.0% over the next six to twelve months.  The projected standard deviation for this portfolio is 16.0%, or 100 basis points above our goal.  We try to keep portfolio volatility as low as possible.

QPP Analysis:  In the following slide we see the QPP analysis for the portfolio.  In review, the five key metrics are:  1) Projected Return is 7.8%.  We prefer this to be 100 basis points above the projection for the S&P 500.  This portfolio nearly reaches that goal.  2) Projected Standard Deviation is 16.0%.  The goal is to keep this percentage low with an upper limit of 15.0%.  3)  Return/Risk ratio calculates to 0.49.  The goal is to reach 0.60.  4) Diversification Metric is a rather low 22%.  The goal is to top 40%.  To do that we need to find investments that have lower correlations with many of the current equity holdings.  5) The least important metric is Portfolio Autocorrelation (20.9%).  This is an acceptable value.

If you examine the historical data you will see this portfolio outperformed the S&P 500 (not an appropriate benchmark), but did so with high volatility.

Correlation Matrix:  To readers who have been following QPP analysis for several years, it comes as no surprise as to how highly correlated we find many of the equity asset classes.  In the follow set of holdings we only capture low correlation by holding BND, Vanguard's total bond index.  We pick up some diversification by using DBC, our commodities ETF of choice.  Otherwise, the ETFs are highly correlated.