1. Personal Finance Asset Allocation
Bill Klinger

2. Personal Finance Review Asset classes Returns Stocks Bonds
Mutual funds
Modern Portfolio Theory
Diversification
Load vs no-load
Managed vs index

3. Asset Allocation
What percent of your money should be in each asset class?
For example:
70% stock, 25% bonds, 5% cash, or
30% stock, 65% bonds, 5% cash
The answer depends upon:
Your investment objective
Your tolerance for risk

4. Investment Objectives
Possible objectives:
Must you have the money without a loss?
Do you want to generate current income?
Do you want the money to grow over a long time?

5. Risk How much risk can you tolerate?
Can you stomach a 30% loss? A 50% loss?
One of investors’ biggest risks is themselves.
Risk of “Greed and Fear”
End up buying high and selling low – the worst possible strategy

6. “Typical” Portfolio Allocations
Stocks
Bonds
Cash
Conservative
20%
55%
25%
Moderately Conservative
40%
50%
10%
Moderate
60%
35% 5%
Moderately Aggressive
70%
Aggressive
80%
15%

7. Asset Allocation Cash Stocks Bonds ~3 months of expenses Rule of thumb
%stocks = 100 – your age
Bonds
%bond = your age

8. Where We Stand Investment objective Risk tolerance Asset allocation
You have determined your:
Investment objective
Risk tolerance
Asset allocation
Now - what investments do you buy in each asset class?

9. Investing
Exercise

10. Efficient Markets Hypothesis
Markets prices reflect all known information
You can not beat the market consistently without luck
Advisors may be correct, just not consistently
Advisors love to talk about winners but not losers
Survi
What to do?
Go with the market
Invest in broad market index funds
Less than 3% of actively managed funds beat index funds over last 20 years*
* “Index Funds Win Again,” NY Times, Feb. 22, 2009.

11. Which Stocks and Bonds? Do not pick individual stocks or bonds
Do you know more than the pros?
Placing a bet
Think of the person on the other side of a trade as an evil genius. They’re probably not evil, but they are very smart.

12. Which Stocks and Bonds? Buy index mutual funds
Pooling of investors’ money to buy investments
Diversifies your risk
Invest in broad market index funds
Less than 3% of actively managed funds beat index funds over last 20 years*
Legg Mason example
* “Index Funds Win Again,” NY Times, Feb. 22, 2009.

13. Index Funds
A fund is a pool of securities that allow investors to buy a share of many securities
Many index funds available for stocks and bonds
Fidelity
500 Index
Total Market Index International Index
U.S. Bond Index
Vanguard
Index 500
Total Stock Market Index Total Int’l Stock Index
Total World Stock Index
Long Term Bond Index
Target Retirement 2050
Target Retirement 2055
Schwab
S&P 500 Index
Total Stock Market Index International Index

14. Market Portfolio In Practice
Could add other asset classes
Foreign stocks
Foreign bonds
Real estate
REITS – Real estate investment trusts
Also use index funds for other asset classes
Don’t invest like a millionaire until you are one

15. But You Want More Not happy with getting what everyone else gets?
More potential return means more real risk
NOT ALL RISK IS REWARDED
Think you can beat the pros?
Some will win, others will lose
Beware greed (remember Madoff?)
Take risk knowingly, intelligently

16. Post-Modern Portfolio Theory
Divide your portfolio into two parts
Alpha
Percentage of your portfolio that you are willing to “bet”
Can be individual stocks or bonds, or funds
Beta
Percentage of your portfolio to invest in the market
Invest according to your asset allocation
Use index funds for asset classes

17. Post Modern Portfolio Theory
Decide how big a bet you want to place
What percent of your assets
Called “alpha”
Investment approach
In the market, “beta”
Place your bets, “alpha”

18. Investment Steps Set aside a cash reserve
With the base of your investments (beta)
Determine your asset allocation according to your risk tolerance (rule of thumb?)
Purchase asset classes using broad index funds
or target date funds
Decide how much you wish to bet (alpha)
Place your bet and have fun

19. Managing Your Investments
One of your biggest risks is you.
Risk of “Greed and Fear”
When stock market goes up, people buy
When stock market goes down, people sell
The worst possible strategy
Many horror stories from 2008
Have a strategy and stay with it
“buy and hold”

20. Summary Think alpha + beta Do not fight the market, buy index funds
Recognize your bets. There is a reason they are called “bets”

21. Example Your investment objective Your risk tolerance Your alpha
You want to save for retirement
Your risk tolerance
You can take some risk but do not want to lose a lot
Your alpha
You believe Asian stocks will beat the market
Willing to bet 10% of your money

22. Example – Your Investments
Alpha
Buy Asian index fund with 10% of your money
Beta
Asset allocation with moderate risk
60% stocks
Purchase a total stock market index fund
35% bonds
Purchase total bond market index fund
5% cash
Purchase a money market fund

23. The Mechanics You can open accounts online www.vanguard.com
Click on “Go to the site” and “Open an account”
Click on “Open An Account”
Click on “Open an Account”
Walk into a bank, e.g. PNC

24. Summary Know your risk tolerance
Allocate ~3 months of expenses to cash
Identify your alpha and beta
Alpha – percent you are willing to bet
Beta – percent invested in the market
Determine your investment objective
Short vs long term
Growth vs income
Determines asset allocation
Invest Beta according to asset allocation
Use index funds to match the market or use target date fund
Place your bets with your Alpha

25. Years to “Financial Freedom”
Source: Financial-Freedom-Calculator-1940x773.png

26. One Last Thought
Saving is the most important part of accumulating wealth.

27. In Class In groups of two
Kelsey is 25 and has $50,000 in savings. Her annual expenses are $12,000. She would like to set aside 3 months of expenses for emergencies. She also wants to keep $2,000 liquid for a future purchase. The remainder of the savings Kelsey wants to set aside for retirement. Kelsey thinks that Amazon can’t lose as a company and is willing to bet 3% of her retirement investments that it will do well. She is willing to take some risk to have the rest of her money grow over time. How do recommend Kelsey invest her savings?