To Asset Allocate or Not?

I had a meeting yesterday with a company (not the Motley Fool) whose online services I’ve been using for a couple years. That has been in a free capacity. It is finance and investment related, but I’m not really looking for a debate on the company specifically. What I looking for thoughts on is what they were pitching to me (through their paid account management). That is asset allocation, and risk management.

In preparation, they went through all of my holdings and analyzed them in a number of ways. The results were interesting to me, but not overly surprising. My portfolio is heavily skewed towards technology companies. Financials and consumer cyclicals were next. Many sectors had scant representation, mostly through the mutual funds I’m forced to own in my 401k. They also showed the breakdown by geography and market capitalization. I had about the mix of US, Foreign Developed and Foreign Emerging markets they recommended. My portfolio leans more to large cap stocks, which they thought should be balanced by more small-cap, which they said recover much faster after a downturn.

Their approach is to divide a portfolio by sector, market cap, geography and other factors. Then they buy individual stocks (for domestic) and ETFs (for foreign). They go top-down, narrowing all the factors, then identify stocks they like within each allocation group. For the stocks, they look at lots of traditional metrics in a very data-centric manner. They also advocate and practice periodic rebalancing, to keep the portfolio near their model for your timeframe and risk acceptance level. While they noted lots of other related features, such as tax-efficient portfolio management, the fundamental key to them is the asset allocation. They claim it both increases ultimate return and reduces downside risk.

That was their pitch. I’m asking about it here, and I’ll tell my thoughts, because I want to see what you all think of it as it relates to the methodologies typical on this specific board, and for Saul in particular.

Overall, I’m not sold on the idea.

One of their points was that a sector (like tech) can take a very long time to recover after falling out of favor or having a meltdown, like the tech bubble era. Fifteen years or something to recover. But to me, that is as a a whole sector, which is only relevant if you are doing things in a macro fashion. Individual companies could be dramatically faster, separating the good from bad in tough times.

It also seems sort of arbitrary to diligently fill all of these specific allocation baskets, even if there aren’t truly compelling investments in all of them. They aren’t going into the level of detail that people on this board do. They select by algorithm, or at least almost completely so.

They showed me their track record over the last number of years. Or, did they show me a backtested, rear-view of how their model would have done? An important clarification when I contact them back. Either way, they pretty much stayed within a percent or so of the S&P 500 during up markets. The apparent difference, which they highlighted, was the points of relative outperformance during down markets. Basically, their claim was “we don’t tank as much as the market”, which leads to a faster recovery and substantial outperformance over a long timeframe. But the risk protection seems to me to carry a really stiff penalty in potential performance. Over the last decade, I’ve beat the S&P 500 by a good margin in my self-directed accounts. I’m not claiming to be the best on this board by any stretch, or even among the top tier of people, by either research quality or performance. And that is the point. If a self-admitted mid-pack investor (from this group) is outperforming their results, why bother? I think the superior performance would more than compensate for the volatility of running a high-beta, closely-monitored portfolio, despite falling harder in inevitable down markets.

My self-directed accounts are 37% of my overall portfolio. Nothing that these folks could do would really impact the rest. None of the options in my 401k(s) are particularly great. I’ve been tempted to quit my job of 13 years, just so I could roll my 401k to a self-directed account. But that may be extreme. Maybe.

Anyway, I welcome thoughts on how the whole top-down asset allocation approach fits (and doesn’t!) with the sorts of investing we seem to be doing here. Do any of you pay any attention to this sort of stuff? It is sort of academically interesting to me, but not really suited to how I have been investing through my adult life. If I was inclined to be a really hands-off investor, it might have some appeal. But then again, what I’ve recommended to some invest-o-phobe friends who hate details is to set up automatic investment into a handful of broad ETFs, and continue blindly until retirement, in an index-focused “if you can’t beat 'em, join 'em” approach. I don’t know how much better the asset allocation model would do, before adding on its own layer of fees. Or if it did better, would it be a wash, net of fees.

I look forward to what you have to say. Thanks.



Hi Justin. Your “advisors” have information we’re lacking and for me at least, I don’t want to know.

Marital Status
Children & Ages
Financial goals
Target retirement age
Hours/mo spent investing
Hours/mo want to spend investing
Your historic returns

Investing, IMO, is like any other job. If you work hard and pay attention, anything is possible. If
that’s too much work, stress or worry, you’re better off buying ETFs and check in once per quarter.
Unless you just “love” investing, why bust your butt investing only to match SPX?

They are right about small-caps; they recover MUCH quicker than mid- or large-caps and faster than
the S&P 500, almost always.

And there is nothing wrong with ETF and index investing if you can reach
your goals with 7-8% returns (count on 6.5% just in case the timing sucks.)

But if closely mirroring the index is okay, why pay someone else to do it?
( Just sign up for Vanguard funds and index away.)



Hi Justin,
I would say they have a valid approach and are probably better than many people who want to manage your money in terms of philosophy. The one thing you didn’t mention is fees. They are amazingly critical to your overall returns. Taking 2 percent off the top makes a very difficult path for them to beat any indexing methodology.

The other point I would make is that it is not really fair to compare a asset allocation plan based on individual stocks versus one index. It is common knowledge that you can improve downside risk by diversifying. The question they need to answer is whether the individual baskets they pick beat the individual index they are trying to replicate. It is easy to asset allocate by index funds for essentially free. What do their fees bring to the table is the question to ask. And as you point out they need to do this with properly dated and prepicked selections. Not a back dated algorithm that worked the last 5 years.

Finally, you have to decide your temperament for investing. If you have a process that has worked through down times (not just the last few years of very good markets) AND can hang with the process during the next down turn, why change?

The only thing I would suggest is that you look at your entire net worth and make sure it is not completely tied to tech companies, but that doesn’t sound like the case to me.

Actually, It sounds like you understand this stuff pretty well already…

Congratulations and Good luck


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You also might get some good info from the folks at Retirement Investing board:

Diversification is the only free lunch you get, so you should asset allocate appropriately based on your risk tolerance. If you’re reasonably intelligent and informed on financial matters I’m sure you can do it yourself.

I’ll try to hit comments/points from folks.


The quicker recovery time of small caps was one of the more interesting tidbits to me. I enjoy some level of investing myself. If I didn’t, I’d be more tempted by their offer, or the ETF/indexing, which I see as perfectly respectable while only taking a couple hours per year.


Their approach had some points of interest. At 1%/year of managed capital. I have been mindful of diversification, but not systematic about it. I have tended to put money in the ideas and stocks I like and understand. I don’t have any question about my own temperament with regard to investing, or perseverance in it. I’m not as old as some on this board, but I started investing before joining the Motley Fool, when it was on AOL, charged by the hour. I know I date myself with that.

Tech is about 40% of my self direct portfolio, which is 37% of the total. So, it isn’t overwhelming, and the 401k isn’t tech focused. Other than being tilted toward large caps, it is pretty broadly distributed, geographically and sector-wise.


Depending on how you break up the stock market, you could get 10 sectors, such as the following:

Basic Materials
Capital Goods
Consumer Cyclical
Health Care
Real Estate

If I want large, medium and small cap representation in each of them, that is a minimum of 30 specific allocation buckets. I know I’d have a hard time narrowing large cap tech down to one. I’d likely struggle to find really interesting and worth companies in some of the other buckets. Is the downside benefit of rigorous asset allocation worth the potential upside penalty of having substantial chunks of money in ideas that aren’t one’s best? To what level do you all even think about this type of diversification, compared to splitting your money between your highest conviction stocks? Seeing that as a spectrum, between rigid/mechanistic allocation and freeform, allocation-blind investing, where do you all fall?

I suppose rephrasing the issue could be done as:

Where do you personally find the sweet spot between diversifying/allocating so much that you mimic the index and concentrating while accepting higher risk?

I’m not saying there is a right and wrong. It is certainly personal preference. I’ve always been pretty happy where I am on that continuum, but I’m considering taking a small step to the diversification side, from where I started much farther in the other direction. Just pondering pros/cons of a relatively minor move, without needing to buy in to the whole deal that was pitched to me.


My self-directed accounts are 37% of my overall portfolio. Nothing that these folks could do would really impact the rest. None of the options in my 401k(s) are particularly great. I’ve been tempted to quit my job of 13 years, just so I could roll my 401k to a self-directed account. But that may be extreme. Maybe.

Many companies 401(K) offer brokerage options. A bit higher selection. Not only you pay higher brokerage fees compared to E*Trade’s of the world, you will be forced to choose from the funds they offer. However, still allows you to self-direct in a much better way.

Also, if your company offers target date funds, probably they can be analyzed for the style mix and choose for your suitability.

Generally, you will be better of working if your retirement funds are less than $5 million. There are other benefits besides money in working but make sure you have accumulated sufficient wealth before you entertain any thoughts about quitting your job. Especially, if you are thinking you can unlock the money in 401(K) and invest it yourself to make a fortune. The bull markets have a way of making you feel invincible.



I was joking on quitting the job to rollover the 401k. It just frustrates me to see the 401k with poor choices (no brokerage options, few funds) underperforming my picks. Not much to really do about it, jokes aside.