The Investment Scientist

A 2011 Investment Recap

Posted on: January 8, 2012

My investment approach can be summed up by three principles:

  1. Globally diversified
  2. Small cap value tilt
  3. Short duration tilt

This approach endured extraordinary challenges in 2011.

1. Globally diversified

Even though the US equity market largely ended up where it started, the global equity markets did a lot worse: the MSCI EAFA Index (world developed markets) dropped 15% and the MSCI Emerging Market Index dropped 20%. To the extent that your portfolio is globally diversified, it will suffer along with the rest of the world. Despite that, global diversification is still a sound principle. We should not regret just because the US market did better. In fact, the market that did the best last year was Venezuela; it went up 110%! Should we regret not concentrating on the Venezuela market? (The answer is no.)

2. Small cap value tilt

2011 was also a year in which the small cap value tilt did not work in your favor. Small cap stocks are down about 7%, while large cap stocks are flat and mega cap stocks (as represented by the Dow Jones) are up about 5%. Was it a mistake to have a small cap value tilt? The answer is no. Over a 10-year period, small cap value nearly always outperforms.See the historical data. On an annual basis, however, the odds that small cap value would underperformed are about 1 in 4. It had a bad year, but we should still like the odds.

3. Short duration tilt

Long duration bonds have done extraordinary well in 2011. For instance, 10-year Treasuries are up about 16%, 30-year Treasuries are up a whopping 35%! Your portfolio has an exposure to long duration bonds through the TIPS fund DIPSX. The fund itself increased 15% in 2011, partially making up for the loss in global equity.

My approach to bond investing is not to expose you to too much duration risk. The longer the duration, the more sensitive is the value of bonds to interest rates. Take 30-year Treasuries, for example. They could go up 30% when the rate decreases; they could also drop 30% when the rate increases. We don’t want to take that chance since the bond portion of your portfolio is for safety.

Though your portfolio did not grow much in 2011, we largely achieved the goal of wealth preservation despite global market challenges. I was able to add excess returns by:

  • Disciplined rebalancing – systematic buy low sell high.
  • Delaying purchases of equity until prices had dropped significantly – leveraging my knowledge of stock market seasonality.
  • Timely communication so that you have the peace of mind to stay the course.

Get my white paper: The Informed Investor: 5 Key Concepts for Financial Success.

2 Responses to "A 2011 Investment Recap"

Have you any Idea about Real Estate Investment? What should care during during real estate investment?

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Michael Zhuang is principal of MZ Capital, a fee-only independent advisory firm based in Washington, DC.


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