Planning ensures that your goals are met.
Risk Management protects your assets.
Portfolios are built with Modern Portfolio Theory.
STRATEGIC ASSET PLANNING
I. Strategic Asset Management a. Qualified Retirement portfolios & Annuities
II. Portfolio Components
a. Classes of Capital assets III. Risk Management IV. Modern Portfolio Theory (MPT)
a. Return vs. Risk
Begins with how your savings are invested and how they are treated by the IRS.
Qualified retirement plan contributions (pre-tax) grow tax-free. Distributions from Qualified retirement plans are taxed at ordinary income tax rates.
Annuity contributions (after-tax) grow tax-free. The taxable portion of the distribution is taxed at ordinary income tax rates.
b. Non-Qualified portfolios
Non-Qualified plans, savings, and brokerage accounts must pay capital gains taxes every year.
Portfolios may contain investments from one or many asset classes.
There are four major "classes" of Investment assets:
1. Cash
2. Fixed Income Government / Corporates / Foreign
Savings accounts, Money Market, CDs, Government Bills, Notes & Bonds, Government Agencies, Corporate paper & bonds and "other" Debentures. Investments that trade futures (and duration risk) may be subject to backwardation (inverse yield curve, price curve downward sloping).
3. Equity Investments
Stocks, ETFs, Mutual funds, Hedge funds (Equity Long-Short, Risk Arbitrage, Mult-Strategy, Equity Market Neutral, CTA/Macro - commodity/derivative, Emerging Markets and Fixed Income), Venture Capital and Private placement. Investments that trade futures may be subject to contango (spot-to-future price curve upward sloping) or backwardation (price curve downward sloping).
4. Alternative Investments Property / Real Assets / Commodities
Home, 2nd residence, Vacation property, Income property, Raw land & Speculative property, Precious metals, Jewels & Collectibles, Commodities, Currencies and Interest rate instruments. Investments that trade futures may be subject to contango (spot-to-future price curve upward sloping) or backwardation (price curve downward sloping).
b. Sub-Classes of Equity Investments
Equity Investment can be further broken down into four major "Sub-Classes":
1. Capitalization
Large Capitalization firms, Mid Cap firms, Small Cap firms, and Micro Cap firms.
2. Valuation
Growth stocks (exhibiting price momentum), Value stocks (based on some Balance Sheet ratio) or a Balanced mix (of growth and value).
3. Sectors & Regions
Sectors & Regions range from U.S. to Foreign (non-US investments may be subject to US dollar exchange rate risk). Individual sectors or Industries (Financial, Healthcare, Technology, etc...) and others sub-categories.
4. Derivatives
Derivatives comprise all financial instruments that "derive" their value from an underlying investment they include: Options, Future, Swaps and other "Exotic" financial instruments.
Risk Management aligns individual investors with a customized portfolio of investments. Managing the downside risk of the portfolio is the objective.
1. Individual Risk analysis: Risk evaluation tests.
2. Investor constraints: Liquidity, Duration (time horizon), Tax (regulations) and Unique circumstances.
3. Investment Policy statement: Objectives, Return vs. Risk (risk aversion, loss prevention) and Monte Carlo simulation (mathematical / statistical technique that estimates the probability of meeting individual goals in the future).
4. Diversification: Asset class, Sector, and/or Geographic region (non-US investments may be subject to US dollar exchange rate risk).
5. Suitability: Appropriateness of potential investments.
Modern Portfolio Theory (MPT) is the most sophisticated method to manage and monitor a portfolio of financial assets.
The Efficient Frontier plots the curve along a Return vs. Risk graph informing investors of their portfolio's performance overall. Attribution analysis separates the value added by asset class, investment style, and timing informing investors from where their portfolio's receive their gains.
b. Strategic Asset Allocation
Allocating assets strategically takes advantage of Global and National Economic trends (business cycles). Cash (non-interest paying Currency), Fixed Income, Equity Investments, Commodities and Real Estate behave differently under different market scenarios.
Investing to avoid the after-effects of speculative Bubbles (negative Gamma risk) is very important. Recent Equity Investment bubbles include: 1) the NASDAQ bubble, 2000-02, 2) the Russian/Asian Market Crisis in 1998 3) and the Crash of 1987. Fixed Income bubbles include: 1) the 2007-09 sub-prime credit crisis 2) the default and rescheduling of National debt in Russia, Asian & South American economies, 1990's 3) and the U.S. savings & loan crisis between 1986-95. Real Estate bubbles include: 1) 2007-09 sub-prime mortgage crisis and housing price collapse 2) dot.com speculation in Silicon Valley, 2000 and 3) speculation in the early 1990's in New York, London, Tokyo, Pebble Beach & Honolulu. Commodity prices routinely fall more than 50% after their frequent speculative rallies.
c. Investment Selection
Assets held in an Investment portfolio can be evaluated using assumptions based on historical averages (post-WWII). History shows that certain opportunities and risks emerge over any given time period and within every business cycle:
Cash (non-interest paying currency) is best held during periods of Financial Crisis and provide the greatest safety during times of extreme uncertainty.
Commodities are best held during periods of rising Prices and provide a hedge against inflation. Fixed Income investments are best held during periods of stable or falling Interest rates and provide a return on invested debt. Equity investments are best held when they are a "relative" bargain based on their value (balance sheet ratios) and/or momentum (price) and provide Appreciation on invested capital.
Demand resulting from invested capital growth causes price inflation and its counterforce interest rates.
Investing benefits from the power of compounding: Return on Investments.
The following graphs show the behavior of: Equity Investments, Fixed Income Investments, Commodity Investments and Cash. Based on the following conservative assumptions / burdens: 1) Start value of $100; with an Annual Fixed payout - income payment of $4 and 2) Inflation of 3% annually.
1. Equity graph
Equity Investments, return of 11% - S&P 1500 , average post-WWII.
2. Bond graph
Fixed Income, return of 5% - U.S. 10 yr. Treasury, average post-WWII.
3. Commodity graph
Commodities, return of 3% - Inflation neutral.
4. Cash graph
Cash, - non-interest paying Currency, no return 0%.
d. Tactical Portfolio Optimization
Tactical Portfolio Optimization is the process of selecting investments to be added to or removed from a portfolio - based on expected return, calculated risk, correlation and an investments postion in its sector's business cycle. To optimize a portfolio for the greatest returns, over a given amount of time, small tactical changes to the portfolio can enhance returns. Identifying tactical opportunities based on perceived market inefficiencies while eliminating potential liabilities is the goal.
Tactically fine-tuning investments over years, months and weeks provides shorter-term opportunities based on technical and contrarian disruptions to markets.
Is it time to take advantage of Opportunities?