The worst bear market in a generation sent many investors' portfolios reeling in 2008 and early 2009. But even though the Dow and S&P 500 aren't anywhere near setting new highs yet, many investors have seen their net worth vault past their 2007 levels -- and it didn't take expert stock-picking for them to do it.
The simple art of asset allocation
In this month's brand new issue of Rule Your Retirement, which is available this afternoon at 4 p.m. ET, Foolish financial planner and retirement expert Robert Brokamp takes a close look at the market meltdown and its aftermath. He notes that the S&P 500 hit its peak in October 2007. After that, it plunged nearly 58% to its March 2009 lows. And despite a big comeback that has the broad-market benchmark index close to doubling since then, the S&P 500 is still 17% below that 2007 high-water mark.
That's bad news if the only thing you've ever owned is an S&P 500 index fund. But fortunately, many investors use asset allocation strategies to spread their risk across various types of investments. And by doing so, those investors not only saw less dramatic losses during the bear market but also were in position to benefit from the outperformance of many investments over large-cap U.S. stocks.
Building the perfect portfolio
As an example, Brokamp points to the model portfolios his service recommends. With three different mixes depending on your age and risk tolerance, each of these portfolios is designed to give you a wide array of exposure to investments that will work well together.
For instance, for those within 10 years of retirement, Brokamp recommends a middle-of-the-road risk profile. He doesn't shut out S&P 500-style stocks entirely; he allocates 30% to large-cap stocks, with a slight tilt toward the consistent dividend-paying stocks that are included in the Vanguard Dividend Appreciation ETF
But Brokamp's asset allocation doesn't stop there:
- He suggests putting 10% toward mid-cap stocks and 10% in small-caps. You can get that exposure from ETFs like SPDR S&P Midcap 400
(NYSE: MDY) (NYSE: IWM) - Outside the U.S., you should split 15% between the developed market stocks that iShares MSCI EAFE
(NYSE: EFA) (NYSE: VWO) - Those nearing retirement should have significant bond exposure. With ETFs like Vanguard Total Bond
(NYSE: BND) (NYSE: TIP)
Sure, this portfolio is more complicated than just a single index fund. But it's also performed better since 2007. In fact, it's returned between 2% and 3% for those who followed it, depending on whether they rebalanced along the way.
What's behind the win?
The key to understanding why asset allocation has worked so well is in the performance of the various investments underlying it. Mid-cap stocks in particular are at new highs, and small-caps are very close to matching their 2007 levels. And while international stocks haven't done all that well in the past three years, bonds have fulfilled their traditional role of dampening portfolio volatility by providing strong gains and consistent income since 2007.
Some other strategies helped out investors even more. Rebalancing added to profits, taking advantage of low stock prices to cash in profits from red-hot bonds and gain even more in the ensuing recovery. Dividend reinvestment had a similar effect, and those who consistently added to their portfolios despite market turbulence got some amazing entry points.
What to do now
No matter whether you've already retired or have decades to go before you quit for good, understanding the value of asset allocation will make a big difference in your investing results. With the introduction of Rule Your Retirement's All-ETF model portfolios, you can easily use these simple investment vehicles to build the perfect portfolio. And while you'll find some of the ETFs mentioned above in his models, Brokamp also uses more specialized ETFs to craft the best mix possible.
To see all the details of these model portfolios as well as keen insight on future prospects for investments and other issues that are important for retirement, take a look at Rule Your Retirement on us. With our 30-day free trial, you'll get a no-obligation, no-holds-barred look at everything the service has to offer.
Bear markets aren't easy to endure, but in the long run, they're unavoidable. If you're prepared for them, bear markets can actually give you opportunities that most investors will never see.
