If you're like most investors, you probably have one or two favorite kinds of investments. Sure, you might own a bond fund or a precious-metals ETF or something, but your focus -- and the bulk of your money -- goes into small-cap tech stocks, or fat dividend stocks, or the like.
I'd much rather spend my time digging into Dolby Laboratories' (NYSE: DLB) emerging-market growth prospects or trying to figure out whether Automatic Data Processing (Nasdaq: ADP) will be able to sustain its dividend. That's natural. But to get good asset allocation in our long-haul portfolios, we need some exposure to investments that behave differently from the U.S. market stocks that get most of our attention.
Yes, you need asset allocation
Asset allocation is like flossing. Most of us know that we should do it, but actually making it a regular part of our lives turns out to be a challenge.
But like flossing, asset allocation is something that can be very good for you over the long term, and it really isn't as much of a hassle as you might think. If you're not familiar with asset allocation (or its close relative, diversification), the idea is pretty simple:
- Markets go up and down.
- Different markets go up and down at different times, in different ways.
- Having investments in your portfolio that come from multiple markets that aren't closely correlated, meaning they don't tend to move up and down in sync, limits your exposure to risks in any one market, smoothes out your overall portfolio's behavior over time, and can enhance your rate of compounding.
In other words, you're more likely to end up with more money if you allocate your assets wisely.
The idea that owning a stock fund and a bond fund can give you greater returns over time than just owning the stock fund seems counterintuitive, doesn't it? But it's a theory backed by a lot of research and real-world experience. There are times when it doesn't work -- like any investment discipline -- but over time, folks practicing good asset allocation tend to do better than those who stick with one or two types of investments. In fact, some studies have shown that the asset allocation strategy you choose has a greater impact on your overall returns than the investments you select in each category. Yes, really!
Clearly, it's important, and clearly it's something that more of us should be taking into account. So wouldn't it be great if there was an easy -- and effective -- way to enhance your portfolio's diversification without hours of brain-busting research -- and without buying something that might kill your performance?
It turns out that there is.
Buying a different drummer
My fellow fool Robert Brokamp, the lead advisor of the Fool's Rule Your Retirement service, is a big fan of asset allocation. He's always looking for ways to make it easier for folks to get the good results that come from a well-diversified portfolio.
In the new issue of Rule Your Retirement, Robert looks at a group of mutual funds that march to the beat of different drummers -- or put another way, that don't march to the beat of the U.S. stock market, the rhythm that drives most investors' portfolios.
How so? Typically, these funds -- which Morningstar calls "moderate allocation" funds -- take nonstandard approaches to investing: Some take short positions, some buy and sell options, some invest in commodities, some combine all of the above and more. But what the funds highlighted by Robert have in common is low correlation with the S&P 500 -- making them great candidates for those needing to diversify away from the U.S. stock markets.
Want an example? Check out Hussman Strategic Total Return (HSTRX), one of the funds highlighted by Robert. This is a low turnover (36%) no-load fund with about $1.9 billion in assets that seeks both income and total returns, but it's not your usual growth-and-income fund. For one thing, it can (and does) buy things like options and precious metals in addition to stocks and bonds. For another, with the market down nearly 40% in 2008, the fund actually made money that year. How's that for low correlation?
So what makes it an alternative? Well, take a look at what's in it:
- A boatload of U.S. Treasuries.
- Precious-metals miners Newmont Mining (NYSE: NEM) and Barrick Gold (NYSE: ABX).
- Electric utilities Consolidated Edison (NYSE: ED) and DPL (NYSE: DPL).
- A bunch of currency ETFs, including CurrencyShares Euro Trust (NYSE: FXE).
In other words, it's not your standard S&P 500 clone, to put it mildly -- but it's a five-star Morningstar fund and one of the leaders in its category.
Want some other choices? Check out Robert's article for more details and some excellent alternatives. Rule Your Retirement is a paid service, but you can get full access to the article -- and everything else, including some excellent asset allocation tools -- for 30 days with a no-obligation free trial. Click here to get started.
Looking for buys amid the market's recent turbulence? Dan Caplinger's eyeing some great stocks that don't deserve to get slammed.
