Advisers Favor Tactical Allocation Over Traditional Equity Exposure

After last year's disastrous decline in all investment sectors, one of the worst years for investing since the 1930s, financial advisers are seriously rethinking traditional diversification and modern portfolio theory.

"We've always been proponents of modern portfolio theory, the idea that everything derives from asset allocation," Steven Enright of Enright Financial Advisors told The Wall Street Journal. "But 2008 is the first time this really didn't work to hold up portfolios. So while we haven't been torn away from modern portfolio theory, 2008 has made us think we should modify the way we do things a bit."

Likewise, Brian Kazanchy, chairman of the investment committee at Regent Atlantic Capital, said, "Making tactical changes to the asset allocation-overweighting here or underweighting there-can add a lot of value, and it's not like jumping in and out of stocks to capture short-term gains. It's based on research on valuations and long-term trends."

Some financial planners have decreased their core holdings so that they have more flexibility to shift the high-growth portion of their portfolio. Many are turning to flexible, broadly based mutual funds, including index funds. Exchange-traded funds are figuring more prominently in portfolios, too, since they can be traded intraday and are so low cost. Sectors that planners currently like include emerging market, foreign and small-cap stocks, bonds and commodities, including precious metals.

Other professionals predict that stocks are unlikely to return to their historical highs, due to a slow recovery, slim corporate profits and a more volatile stock market. The traditional portfolio allocation of 60% stocks and 40% bonds "is almost like Betamax videotapes. It's now passe," said Andrew Silverberg, co-manager of the Alger Balanced Fund, who said he is a proponent of "more dynamic" asset allocation. The 60/40 rule "gained popularity while we were still in a bull market."

Also in this camp of taking a flexible approach to investing is Steven Romick, manager of the FPA Crescent Fund. "Any kind of strict percentage allocation doesn't make sense. It's just ridiculous," he said. He has 27% of his portfolio in cash, 38% in stocks, 28% in corporate bonds and 7% in shorts.

6% of 401(k) Investors Cease All Contributions

Many investors are still too afraid to get back into the stock market, and their hesitancy is putting a drag on the market's resurgence, the Chicago Tribune reports.

About 6% of 401(k) investors have stopped contributing to their plan altogether, not realizing that they have the choice of putting the money in stable-value funds rather than the market. One investor incorrectly commented, "I am a middle-aged person, concerned about what approach is useful when it comes to socking away money for retirement. My previous strategy of putting as much money into my IRA, 401(k), as possible no longer seems prudent."

Pamela Hess, a Hewitt Associates researcher, said figures her company has compiled show a steep retrenchment from equities. "People pulled back from stocks dramatically [during the downturn], and we have not seen that reverse," she said.

Nonetheless, not all reports of investor confidence are gloomy. Fidelity recently reported that after investors decreased overall 401(k) contributions between the third quarter of 2008 and the first quarter of this year, in the second quarter, they increased contributions.

Anecdotally, the decline in those contributions might be due to job losses, as well as those lucky enough to still have a job concentrating on building up emergency savings, rather than preparing for retirement. It could also be due to the fact some employers are no longer matching employees' contributions, and some have stopped automatic enrollment.

Regardless of the reason for investors' aversion to the stock market, if more of them don't return to equities, the market won't deliver strong gains, if any, for the foreseeable future. With about $12.4 trillion worth of stocks outstanding on the market, individuals could have a big impact on the stock markets since they control $13.4 trillion in retirement assets. As the Tribune puts it, "individuals' decisions to choose stocks, bonds or other assets for nest eggs are important for the direction of the market."

So far this year, investors have poured $208.4 billion into bond funds, far more than the record $140.6 billion they invested in 2002 following the dot-com crash.

PIMCO Launches 'Real Income' Funds That Ladder TIPS

PIMCO has joined the retirement income race with its Real Income Funds, a suite of mutual funds that ladder investments in TIPS to serve as an anchor for retirees' portfolios by offering them steady monthly income, inflation hedging and liquidity.

Initially, the funds will be offered in maturities of 2019 and 2029, which means that up until those dates, when the funds will be depleted, they will draw down principal and interest to provide a steady stream of income.

"The PIMCO Real Income Funds are an innovative investment solution for retirees," said PIMCO Executive Vice President and Retirement Product Manager Tom Strieff. "The funds are a natural fit with annuity products and seek to supplement Social Security, defined benefit plans and other sources of retirement income in a manner that helps cushion against inflation."

PIMCO noted that it has been one of the most active participants in the TIPS market since its creation in 1997 and that TIPS principals are backed by the U.S. government. PIMCO Senior Vice President and Portfolio Manager Gang Hu will manage the funds.

Morningstar Rates 20 Largest Target-Date Series

Morningstar is offering advisers in-depth research reports for 20 of the largest target-date mutual fund series, based on five components making up the "five P's": People, Parent, Performance, Portfolio and Price. A pared-down version is also available to individual investors.

The people and parent ratings are a combination of both quantitative and qualitative assessments, while performance, portfolio and price are strictly quantitative.

Based on this criteria, Morningstar found the target-date funds from Vanguard to be the best and those from Oppenheimer to be the worst. Vanguard's stock selection held up better than peers, Morningstar said. Besides this prudent management and long-tenured portfolio managers, its target-date funds also offer low fees and a high level of transparency.Oppenheimer's funds performed very poorly in 2008, Morningstar said, which was only further compounded by the highest fees among all of the funds that Morningstar analyzed.

"Target-date funds serve as the core holding for millions of investors as they plan for retirement, often as the only holding, and they are increasingly an automatic default option within defined contribution plans," noted Laura Pavlenko Lutton, editorial director in the mutual fund research group at Morningstar.

"Our new ratings and research reports are designed to help individual investors, financial advisers and plan sponsors make the best possible decisions when evaluating a series of target-date funds," Lutton added.

There is room for improvement among target-date funds, Lutton said, especially with respect to fees, since the funds are designed to be held for many years, even decades.

Eaton to Offer Bond Fund Linked to Stimulus Plan, Called 'Build America'

Eaton Vance is planning a bond mutual fund that will invest in Build America Funds, taxable debt being issued as part of the federal stimulus plan. It will be called the Eaton Vance Build America Bonds Fund.

Geoff Bobroff, president of Bobroff Consulting, told The Wall Street Journal that this is the first mutual fund he is aware of that is investing in debt tied to the American Recovery and Reinvestment Act of 2009.

The state and local governments that issue the bonds may either elect to have the U.S. Treasury pay 35% of the interest payments on the bonds to investors or to provide a federal tax credit of 35% of the coupon interest on the bond to investors.

To date, municipalities have issued about $27 billion worth of Build America Bonds.

Automatic Contributions Mask Poor 401(k) Returns, Fuel Investor Inertia

One of the biggest mysteries to emerge from the recession is why investors have stuck with their 401(k) in the face of a 55% market decline between October 2007 and March 2009.

The simple reason, The Wall Street Journal reports, is that payroll deductions every two weeks continuously pump up participants' balances, and unwitting, disengaged investors see their balances holding steady. Instead, they actually should be looking at performance. And if they did, more of them would bail out of the market.

Certainly, figures from the nation's biggest fund administrators bear out this inertia. Among the three million 401(k) participants that Vanguard oversees, 16% were 100% invested in stocks at the end of 2008. A year earlier, 17% were 100% invested in stocks, showing that scant few blinked. Those figures were right on target with Fidelity, which serves 11.5 million participants. The firm's latest figures show that 15% have 100% of their portfolios in stocks.

What's more, Vanguard figures show that only 16% of 401(k) investors made one or more trade in 2008, barely changed from 15% in 2007, and, oddly, down from 20% in 2004.

"It is kind of striking," said Stephen Utkus of the Vanguard Center for Retirement Research. "We had the most drastic market decline since the Depression. We nearly had a total collapse of the global financial system. And all that caused most people not to do much at all."

Utkus calls the automatic contributions that pump up 401(k) balances the "contribution effect," which he also credits with the general inertia among 401(k) investors. He also notes that investors have been told time and again to believe in long-term investing.

While it is a good idea to be patient with the market, advisers say, investors should not be catatonic. As The Journal recommends, "Investors should rebalance annually to sell some of what has gone up and buy some of what has done down."


(c) 2009 Money Management Executive and SourceMedia, Inc. All Rights Reserved.

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