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A convenient way to summarize investment objectives is a custom benchmark defined by the portfolio percentage allocations to investable market proxies for the cash, bond and stock sectors.
Ripsaw® Wealth Tools starts up in Net Worth mode so that you can see your entire wealth picture. Click on the House/Car button to shift the dashboard to Investment mode.
John and Jane’s default benchmark appears below their current asset allocation in the wealth portfolio dashboard.
The red warning circles are Benchmark Deviation Indicators that indicate exceeding the threshold settings associated with their large cash overweight and significant underweight in bonds.
John and Jane need to set up their customized benchmark before revising their portfolio.
Select the Manage Benchmark icon.
The first step defines the sector proxies to be used for low cost, well-diversified and readily obtainablecash, bond and stock portfolios. Ripsaw® provides a U.S. Centric default for the composition of the proxy portfolios. A government money market fund for cash, an investment grade bond market index ETF for bonds and for stocks, 80% in the total U.S. stock market index ETF and 20% in a total International stock market index ETF.
Select the Global Centric Market Proxies button for more international diversification. Note the larger allocation to Non-US investment grade and emerging market bond index ETFs and a total global stock market index ETF that has a much higher allocation to non-US stocks.
You can edit both the investment weights and choice of proxies for subsectors contained in each proxy portfolio. You are in control!
Given the exchange rate, political and accounting risks outside the U.S., the Saws prefer to start with the US Centric default and only add some diversification with investment grade international bonds and US high yield bonds.
They click the + sign next to Bond Market Sectors and add US HIGH YIELD as an additional component to their bond market proxy portfolio. Next, they click on the No Proxy Chosen and then the Choose Securitybutton to use the investment screener to find one. They select the Bond Fund column, reduce the expense ratio to a maximum of 0.25%, eliminate actively managed and mutual funds. ETFs are preferred to get benchmark price updates when markets are open.
Click Next to get a menu of bond subsectors. Select US High Yield and then choose a low expense ratio, low cash allocation index ETF. Confirm selection and see the high yield index ETF added to the Bond Market Sectors list. Then they adjust the investment weights to include all subsectors of their customized bond market proxy portfolio.
John and Jane are comfortable with their default proxies and their respective investment weights, so they continue on to the next step.
An investor’s Strategic Asset Allocation is a good proxy for their risk tolerance. Generally, increasing the percentage allocated to common stocks will increase both the risk and expected return of a portfolio. The default allocation for risk tolerance is a stock percentage equal to 100 minus the age entered in the user profile. The older you are the shorter your investment time horizon. That is, less time to recover from a market downturn, and hence, a preference for a lower stock market exposure. A sensible entry might be the younger age of a married couple.
In actuality, age is only one factor in determining your risk tolerance. Hence, you should modify this rule of thumb based on additional personal circumstances and preferences.
For example, a couple planning some near-term large expenditures like a home purchase down payment might be more risk averse and select a lower stock and higher cash allocation.
A dual earning couple with stable careers and low fixed expenses might increase their stock and lower their cash allocation.
A retiring person may employ a downside risk strategy of the percentages in cash and Treasury bonds that safeguard essential retirement spending and invest the remaining percentage in stocks.
Since sector proxy mutual funds or ETFs have cash in their holdings for operations, note that the stock and cash allocation sliders have minimums and maximums. If a proxy stock portfolio’s cash allocation is 1%, the maximum stock allocation is 99% and there is a minimum 1% cash allocation to your custom benchmark. Ripsaw® will account for the cash, bond and stock percentages in the proxy portfolios when you select the strategic asset allocation and evaluation of the funds in your portfolio.
John and Jane Saw settled on a 60% stock, 5% cash and 35% bond strategic asset allocation. After saving and closing their customized benchmark allocation, we see it in the Investment mode dashboard.
After saving your custom benchmark, Ripsaw® will enter and maintain its properties in the wealth portfolio dashboard including mapping them to Net Worth mode.
When the deviation of the current portfolio from the benchmark allocation exceeds a 4% threshold, it will be indicated in red. Between a 2% and 4% difference, it will be displayed in yellow. Below 2%, it will display a green indicator.
Go to Settings to manage the thresholds.
Any preferred threshold changes can be made here and saved.
The deviations can be an unintended drift from their benchmark strategic asset allocation or a tactical asset allocation to take advantage of temporary market disruptions, valuation assessments, supply/demand imbalances in the marketplace or near-term liquidity demands.
Portfolio monitoring involves comparing these properties with your actual portfolio and identifying significant deviations. Then, unintended deviations can be reduced with actual portfolio revision decisions.
Since John and Jane are just getting started, their next step will consider portfolio revisions to get closer to their customized benchmark.