Despite proclamations of the death of the balanced portfolio by some periodicals a couple of years back, the strategy has retained Your Survival Guy’s support. Take a look at the efficient frontier developed by Harry Markowitz to get a feel for what balanced means to your portfolio.
The Efficient Frontier, created by Harry Markowitz in 1952, measures the efficient diversification of investments that delivers the highest level of return at the lowest possible risk. Investors must consider the trade-offs between risk and reward in their portfolios. You can see on the chart above an efficient frontier line representing risk vs. reward for a portfolio allocated between different proportions of stocks and bonds using data back to 2000.
On the vertical axis is the return earned by the portfolios, and along the horizontal axis is a measure of how much risk was taken to earn those returns. As you can see by comparing the portfolio of 80% bonds and 20% stocks to the portfolio of just bonds, as portfolios take on a small number of stocks, the benefit of diversification lowers risk and increases reward. Anything above the line is unachievable because no portfolios earning those returns are available at the corresponding risk levels. And any portfolios that fall below the line can be outperformed with the same amount of risk or have their returns matched with less risk.
But to achieve higher returns along the line, investors adding more stocks to their portfolios are taking on ever greater amounts of risk. A portfolio of 100% stocks boasts a standard deviation of over 14%. Be aware of the risk in your portfolio and manage it wisely.
Action Line: When you’re ready to talk about balance in your portfolio, email me at ejsmith@yoursurvivalguy.com. I’ll know you’re serious. Click here to subscribe to my free monthly Survive & Thrive letter.
