Why Well-Diversified Portfolios Have Lagged the S&P
Some investors have seen minimal returns compared to the benchmark.
Provided by Kim Gaxiola
Diversification is essential, yet it comes with trade-offs.
Investors are repeatedly urged to allocate portfolio assets across a variety of investment classes. This is fundamental; market shocks and month-to-month volatility may bring big losses to portfolios weighted too heavily in one or two classes.
Just as there is a potential upside to diversification, there is also a potential downside. It can expose a percentage of the portfolio to underperforming sectors of the market. Last year, that kind of exposure affected the returns of some prudent investors.
Sometimes diversification hinders overall performance.
The stock market has performed well of late, but very few portfolios have 100% allocation to stocks for sensible reasons. At times investors take a quick glance at stock index performance and forget that their return reflects the performance of multiple market segments. While the S&P 500 rose 11.39% in 2014 (13.69% with dividends), other asset classes saw minor returns or losses last year.1
As an example, Morningstar assessed fixed-income managers for 2014 and found a median return of just 2.35% for domestic high yield strategies. The Barclays U.S. Aggregate Bond Index advanced 5.97% in 2014 (that encompasses coupon payments and capital appreciation), while the Citigroup Non-U.S. World Government Bond index lost 2.68%.1,2
Turning to some very conservative options, the 10-year Treasury had a 2.17% yield on December 31, 2014; at the start of last year, it was yielding 3.00%. As March began, Bankrate found the annual percentage yield for a 1-year CD averaged 0.27% nationally, with the yields on 5-year CDs averaging 0.87%; last year’s average yields were similar.3,4
Oil’s poor 2014 affected numerous portfolios. Light sweet crude ended 2014 at just $53.27 on the NYMEX, going -45.42% on the year. (In 2008, prices peaked at $147 a barrel). Correspondingly, the Thomson Reuters/CRB Commodities Index, which tracks the 19 most watched commodity futures, dropped 17.9% in 2014 after slips of 5.0% in 2013, 3.4% in 2012 and 8.3% in 2011. At the end of last year, it was at the same level it had been at the end of 2008.5,6
The longstanding MSCI EAFE Index (which measures the overall performance of 21 Morgan Stanley Capital International indices in Europe and the Asia Pacific region) lost 7.35% for 2014. At the end of last year, it had returned an average of 2.34% across 2010-2014. So on the whole, equity indices in the emerging markets and the eurozone have not performed exceptionally well last year or over the past few years.7
All this is worth considering for investors wondering why their highly diversified, cautiously allocated portfolios lagged the main U.S. benchmark. It may also present a decent argument for tactical asset allocation – the intentional, responsive shift of percentages of portfolio assets into the best-performing sectors of the market. Whether an investor favors that kind of dynamic strategy or a buy-and-hold approach with a far-off time horizon in mind, it is inevitable that some portion of portfolio assets will be held in currently lagging or underperforming investment classes. This is one of the trade-offs of diversification. In some years – such as 2014 – being ably diversified may result in less-than-desired returns.
Disclosure:
TechGirl Financial is a part of Discover Financial Happiness. Kim Gaxiola, CFP® Registered representative, securities offered through Cambridge Investment Research, Inc., Broker-dealer, member FINRA/SIPC. Investment advisor representative, Cambridge Investment Research, Inc., a registered investment advisor. Cambridge and TechGirl Financial by Discover Financial Happiness are not affiliated.
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This material was prepared by MarketingPro, Inc., and does not necessarily represent the views of the presenting party, nor their affiliates. This information has been derived from sources believed to be accurate. Please note – investing involves risk, and past performance is no guarantee of future results. The publisher is not engaged in rendering legal, accounting or other professional services. If assistance is needed, the reader is advised to engage the services of a competent professional. This information should not be construed as investment, tax or legal advice and may not be relied on for the purpose of avoiding any Federal tax penalty. This is neither a solicitation nor recommendation to purchase or sell any investment or insurance product or service, and should not be relied upon as such. All indices are unmanaged and are not illustrative of any particular investment.
Disclosure:
Tech Girl Financial is a part of Discover Financial Happiness. Registered representative, securities offered through Cambridge Investment Research, Inc., Broker-dealer, member FINRA/SIPC. Investment advisor representative, Cambridge Investment Research, Inc., a registered investment advisor. Cambridge and Discover Financial Happiness are not affiliated.
Discover Financial Happiness | 111 North Market Street suit 300| San Jose, CA 95113
This material was prepared by MarketingPro, Inc., and does not necessarily represent the views of the presenting party, nor their affiliates. This information has been derived from sources believed to be accurate. Please note – investing involves risk, and past performance is no guarantee of future results. The publisher is not engaged in rendering legal, accounting or other professional services. If assistance is needed, the reader is advised to engage the services of a competent professional. This information should not be construed as investment, tax or legal advice and may not be relied on for the purpose of avoiding any Federal tax penalty. This is neither a solicitation nor recommendation to purchase or sell any investment or insurance product or service, and should not be relied upon as such. All indices are unmanaged and are not illustrative of any particular investment. The Dow Jones Industrial Average is a price-weighted index of 30 actively traded blue-chip stocks. The NASDAQ Composite Index is an unmanaged, market-weighted index of all over-the-counter common stocks traded on the National Association of Securities Dealers Automated Quotation System. The Standard & Poor’s 500 (S&P 500) is an unmanaged group of securities considered to be representative of the stock market in general. It is not possible to invest directly in an index. NYSE Group, Inc. (NYSE:NYX) operates two securities exchanges: the New York Stock Exchange (the “NYSE”) and NYSE Arca (formerly known as the Archipelago Exchange, or ArcaEx®, and the Pacific Exchange). NYSE Group is a leading provider of securities listing, trading and market data products and services. The New York Mercantile Exchange, Inc. (NYMEX) is the world’s largest physical commodity futures exchange and the preeminent trading forum for energy and precious metals, with trading conducted through two divisions – the NYMEX Division, home to the energy, platinum, and palladium markets, and the COMEX Division, on which all other metals trade. Additional risks are associated with international investing, such as currency fluctuations, political and economic instability and differences in accounting standards. This material represents an assessment of the market environment at a specific point in time and is not intended to be a forecast of future events, or a guarantee of future results. Past performance is no guarantee of future results. Investments will fluctuate and when redeemed may be worth more or less than when originally invested. All economic and performance data is historical and not indicative of future results. Market indices discussed are unmanaged. Investors cannot invest in unmanaged indices. The publisher is not engaged in rendering legal, accounting or other professional services. If assistance is needed, the reader is advised to engage the services of a competent professional.
Citations.
1 – qz.com/320196/its-over-stocks-beat-bonds/ [1/2/15]
2 – tinyurl.com/oq6cb7w [2/23/15]
3 – treasury.gov/resource-center/data-chart-center/interest-rates/Pages/TextView.aspx?data=yieldYear&year=2014 [3/3/15]
4 – bankrate.com/funnel/cd-investments/cd-investment-results.aspx?prods=15,19 [3/3/15]
5 – money.cnn.com/data/commodities/ [12/31/14]
6 – nzherald.co.nz/business/news/article.cfm?c_id=3&objectid=11387661 [1/17/15]
7 – mscibarra.com/products/indices/international_equity_indices/gimi/stdindex/performance.html [12/31/14]