As you may have experienced in years past, stock markets follow cycles much like the seasons. In 2008, we had the worst autumn ever with a huge storm, strong winds and lots of rainy days. Then, we continued with a rough winter, putting our determination on trial.
However, since March, spring has sprung and the market granted our patience with great returns over the summer. Now that the leaves are falling outside our windows, we all think the same thing; it is time to go outside and clean up our yards in order to prepare for winter. This is what I did last weekend; rearrange the kids’ toys, bicycles and the lawnmower so I can put my car in the garage (I just hate to go out at 6am to scape ice off my windshield!).
This is also a great time to review your investment portfolio and make sure your asset allocation is consistent with your investment strategy. There are 3 main reasons why you should look at asset allocation:
#1 Rebalance your asset allocation
If you didn’t touch your investments since the beginning of 2009, chances are that you are overweight in equities and underweight in fixed income. Yeah, I know, why sell a winner to buy a loser? But this is a gambler’s quote, not one from a wise investor.
The concept of asset allocation had been created to maintain a certain level of risk that a specific investor can bear. If you allow your portfolio to increase its equity portion, you expose yourself to higher fluctuations (i.e. increased volatily = higher risk). People are courageous when they have a loaded gun and they cross a lion. However, they start shaking when they realize that the gun is loaded with water! This is what happens when we are in the middle of a bull market; investors tend to forget about the past and think they are smart and courageous. Why don’t you apply the most simple investing rule: Buy low and sell high.
#2 Tax optimization
You probably suffered great capital losses last year. If you were fortunate, you were able to crystallize a part of those losses in order to report against previous capital gains. If you didn’t have capital gains to offset your losses, you are able to carry your losses forward in order to offset future capital gains.
Since the stock markets have been pretty generous with capital gains since the beginning of the year, it may be a great time to crystallize those gains without paying additional taxes (thx to your 2008 losses!). So, if you move your investments from equities to bonds for at least 30 days, you can put back your money into the market (if it still fits your asset allocation) and you will benefit from tax efficiencies.
#3 Sell the inappropriate stocks
If you have followed my posts, you probably noticed that Canadian banks were pretty cheap back in December 2008. I know some investors that invested heavily in Canadian bank stocks  in order to benefit from marvellous timing (all Canadian banks showed stock yields over 50% in 2009).
However, this “free ride” won’t continue forever. While I still think that Canadian banks are sound investments to hold in your portfolio, you may not want them to represent 80% of your portfolio! This is why selling a portion of them would be a great idea in order to redo your asset allocation and build a more balanced portfolio.
There were a lot of undervalued stocks back in January 2009. I think it is now a great time to review each of them and look at their growth potential for the future. Some of them may no longer be on your radar.
I personally suggest to my clients to review their asset allocation twice a year for those who are not in a managed portfolio. While it is important to revisit your asset allocation from time to time, it could be dangerous if you do it too often. By doing it twice a year, you will capture most of the majors trends and will be able to use a strategy according to your investor profile.
If you want to learn more about investment strategy and investor profiles, here are 2 previous posts that will explain different investing strategies:
image source: yewenyi