Proper diversification is probably the most critically important attribute of a successful investment portfolio. Diversification reduces risk without necessarily reducing expected returns. Poorly diversified portfolios expose you to a higher level of risk.
Asset allocation is one of the best tools to achieve portfolio diversification. In fact, research suggests that the decision as to how to allocate money among various types of investments (asset classes) is far more important than the selection of individual securities or individual funds. It has been shown that asset allocation decisions account for 90% of a portfolio’s return. Key among these decisions is the allocation between equity and fixed income asset classes within a portfolio. Both these asset classes have differing historical risks and returns, and we work with the client to balance their risk tolerance and investment return requirements based on their age and stage of life.
No-load mutual funds, index funds and Exchange Traded Funds are an excellent means to implement an asset allocation decision. These investments provide ready made diversification within an asset class, and there are funds for virtually every conceivable type of investment. We select investments that have low fees, consistency of a relative performance to a relevant benchmark, and tax efficiency. Other criteria may also be considered. Low overall fees are critical. Funds that are both no-load and those with low annual expense ratios are used. In certain special circumstances, funds with short-term redemptions are recommended to the client if the redemption fee period is deemed short enough and is consistent with the investment objectives.
Recognizing that it is not what you make, but what you keep that is important, we work diligently to maximize after tax returns. Foremost in this regard is to invest in tax efficient funds. Some fund managers explicitly manage their funds with taxes in mind. Other funds have very low turnover, and as a consequence tend to be naturally tax efficient. Secondly, to the extent that the portfolio is comprised of taxable and tax-deferred accounts, we determine the appropriate account in which to place each asset so as to preserve the opportunity to receive favorable capital gains treatment. In a diversified portfolio, there may be opportunities to "harvest" capital losses and use these to offset capital gains. We may recommend this if trading costs do not outweigh the benefit of the harvesting. Lastly, it is important to remember that good financial decisions and not tax considerations should be the driving force in making decisions to sell assets.