ROANOKE TIMES
Copyright (c) 1996, Roanoke Times
DATE: Monday, May 6, 1996 TAG: 9605070085
SECTION: MONEY PAGE: 6 EDITION: METRO
SOURCE: MAG POFF STAFF WRITER
WHERE TO PUT THE NEST EGGS:
One planner recommends 60% in stocks and 35% in bonds for a conservative investor who still is after growth. The other 5% would be in cash or the equivalent of cash, such as certificates of deposit. If you were invested in stocks or stock mutual funds over the last year or so, you probably found that the market was good for you - so good, in fact, that you may now be in a position with more financial risk than you desire.
"You should start with some type of allocation model" when it comes to investing, according to John C. Parrott II, a certified financial planner and vice president at Wheat First Butcher Singer Inc. in Roanoke. "You should have some reason for what you are doing."
That means you should have a plan for allocating your assets. That refers to a strategy for dividing certain percentages of your total investment funds among specific categories.
The allocation you choose should meet your investment objectives by giving maximum returns for your chosen level of risk.
Parrott recommends an allocation right now of 60 percent in stocks and 35 percent in bonds for a conservative investor who still is after growth. The other 5 percent would be in cash or the equivalent of cash, such as certificates of deposit.
The Institute of Certified Financial Planners suggested a slightly more complicated plan: 40 percent in domestic stocks (half in growth, half in stocks paying steady or generous dividends), 20 percent in domestic bonds, 10 percent in international stocks, 10 percent in international bonds, 10 percent in cash, 5 percent in real estate and 5 percent in gold.
But after the run-up in stocks over the last year or two, along with some appreciation in bonds, your portfolio's allocation may look quite different from the original plan.
Domestic stocks could represent as much as 50 percent of the total value of the portfolio, with domestic bonds at 25 percent. Everything else would be correspondingly lower in percentage.
If stocks in general were to drop suddenly, the planners said, it might affect a larger percentage of your portfolio than you intend. In effect, your portfolio has become riskier because stocks have performed so well.
The planners dubbed this largely unnoticed shift in the portfolio as "risk creep."
Parrott, unlike the planners, recommends reassessments at periodic intervals. He does this with his clients every quarter.
After a 14-year bull market with only momentary hesitations, portfolios are heavy with profits in stocks. That makes them vulnerable to downdrafts, he said.
The dividend ratio is, therefore, lower, he pointed out. And he sees a "lot of things that could make you nervous" about the stock market.
He recommends replacing stocks with bonds until the agreed-on allocation is reached. Some people, he pointed out, are still buying stocks because they like extra stocks in their portfolios for the growth potential. He doesn't rule this out as long as the underlying allocation is based on a plan of action.
Parrott likes to "ladder" bonds by buying a series of different maturities. That gives you liquidity because some bonds are always ready to mature. Some money is also usually available for reinvestment in case interest rates should rise.
The situation is not limited to individual stocks and bonds, Parrott noted. Many people have experienced strong gains in some of their mutual funds, thus giving high ratios of aggressive funds vs. the income and balanced variety. This too could create more risk than you intend to carry.
You have to determine your own tolerance for accepting risk against the possibility of growth, Parrott said. His recommended allocation is designed to conserve principal in this market.
"It's a matter of paying attention to it and not losing discipline," Parrott said. He pointed out that some stocks have swung 80 points over six months, so the market can change pretty fast.
The financial planners said that selling off some of the winning stocks and bonds follows one of the great rules of investing: buy low, and sell high.
They recommended taking action to rebalance after the portfolio is out by 5 percentage points or more.
A study published in the Journal of Financial Planning found that rebalancing when a category changed 7.5 percent to 10 percent, rather than rebalancing automatically at regular intervals such as quarterly or yearly, provided the most cost-effective method for the amount of risk taken and for comparable returns.
This, however, requires constant tracking and vigilance, which is difficult unless you have assistance of a computer program such as Intuit's Quicken or Microsoft's Money.
On the other hand, the planners said, you may like the new portfolio mix or you may want to readjust it in a different allocation than the one you had before.
There are several reasons why you may want to reconsider your original mix, the planners said.
Perhaps your goals have changed. You may have married, had a child or decided to start your own business. Such events often affect investment goals.
Of you may be nearing your goal such as college for your children or retirement. If so, you want to shift some or all of the funds allocated for that goal into more conservative investments. Otherwise, you risk a significant drop in the value of the investment just when you need to sell it for tuition payments.
Your circumstances may have changed. You may have experienced a substantial increase in income, become disabled, lost your job or received a sizeable inheritance. Changes such as these may suggest a different portfolio mix.
Finally, your risk tolerance may have changed as your view of investing has altered because of your experiences. Your tolerance may increase or decrease accordingly.
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