Eight Rules For ETF Success
By Carl Delfeld
Managing a global portfolio of exchange-traded funds (ETFs)
is a great way to build a diversified portfolio with
exposure to equities around the globe. Fortunately, you
need not be a rocket scientist to do this, but many
investors fail to observe some basic guidelines, and it can
get them into real trouble. Follow these eight steps and
sleep easier.
1. Liquidity Comes First: Before you even think of building
an investment portfolio, you should set aside about six
months of income in a “rainy day” account. This
could be put into a money market fund or U.S. Treasury
securities. Having this money set aside will ease your mind
and allow you to be more open and creative with your global
portfolios.
2. Separate Portfolios: You should separate your core
conservative portfolio from your growth portfolios. With
the core conservative portfolio, your top priority is
capital preservation, and growth is a secondary
consideration. Your growth portfolios are more speculative,
with capital growth as the primary goal.
3. Really Diversify Your Portfolios: You need positions in
your portfolios that are likely to offset each other as
unexpected events and market movements become a reality.
This is not accomplished with different sectors of ETFs or
a mix of small-cap, mid-cap and large-cap ETFs. Rather the
goal is to have some investments that are on both sides of
risks.
For example, if the U.S. dollar declines, have some
investments in precious metals or denominated in other
currencies, such as Switzerland or Australia or Singapore
ETFs. If inflation heats up, have some investments that
hedge this risk such as timber, gold or Treasury
inflation-protected bonds (TIPs). If political events or
policies in one country take a turn for the worst, it is
helpful to have investments in other well-developed
countries to offset any loss of value. You get the idea,
spread your risk and avoid having one ETF account for more
than 5%-10% of your core portfolio.
4. Be Careful Which Countries You Pick: You need some
guidelines to help keep you from getting carried away and
having too concentrated a position in a particular country
or region. In particular, take a good look at the
following: 1) the stability and overall political and
corporate governance; 2) the legal environment, respect for
contracts, low levels of corruption, due process and rule
of law; 3) the macroeconomic environment including fiscal
discipline and currency strength; and 4) political risks
that could affect financial markets.
Keep in mind that the quality of the countries you choose
to invest in is the primary but not the only factor. The
price or valuation of a country’s stock market is
also extremely important. Oftentimes, the best time to buy
into a country’s stock market is when it is beaten
down, but there are signs that its economic and political
problems will sharply improve. If you have a long-term
perspective, you might consider annuities specially
structured for ETF portfolios.
5. Minimize Company Risk by using our “buy countries,
not stocks” strategy. Instead of trying to pick the
best three stocks on the Tokyo Stock Exchange, why not just
minimize company risk by buying the iShares MSCI Japan
Index, which tracks the Nikkei 225 and spreads this risk
across 225 Japanese companies.
6. Monitor ETF Country And Company Exposure: Be careful to
look under the hood of ETFs to see where your money is
going. For example, let’s look at the iShares MSCI
Emerging Markets ETF. It invests in 26 different countries,
so it is natural to think that you will get broad exposure
to all 26 countries. You would be wrong: 50% of your
investment in this fund is going to four countries: South
Korea, South Africa, Taiwan and China. In addition,
incredibly, 7.5% is going to one company, Samsung
Electronics of South Korea.
The same is true for the MSCI Europe, Asia and Far East
index. It contains 21 developed countries, but 48% of the
money you invest would go to just two: Japan and the United
Kingdom. Meanwhile, less than 1% would go to Singapore and
Ireland! Country specific ETFs such as the new iShares
FTSE/Xinhua China 25 Index can also have a fair amount of
concentrated risk. Although the China ETF tracks a basket
of 25 companies, the largest five companies account for
nearly 50% of your exposure.
7. Cut Losses With A Trailing Stop-Loss Policy And ETF Put
Options: We have all been there. You buy a stock or fund,
and it appreciates in value rapidly. Then it stumbles and
begins to decline. What do you do? Should you buy more, let
it ride, or sell? Save yourself a lot of pain and agony by
following a simple rule. If a position ever falls more than
20% from its high, sell it immediately and reassess the
situation. If you invest in an ETF with a sizable downside
risk, why not spend a few hundred dollars to purchase a
put-option as an insurance policy?
8. Rebalance Your Portfolio: At least annually, you need to
make some changes so that you are not overly exposed to
countries that have higher risk factors and volatility. One
way is by selling some shares of your winners and
increasing exposure to under performers. This accomplishes
another goal, locking in gains and taking some money off
the table. Remember, only a fool holds out for top dollar,
especially in the more volatile emerging market countries.
Building your portfolios with low-cost, tax-efficient ETFs
is a smart strategy, but don’t set it on auto pilot.
For more information call 877-221-1496
About the Author: Carl Delfeld is head of the global
advisory firm Chartwell Partners and editor of the the
"Asia-Pacific Growth" newsletter and is the author of "The
New Global Investor." For more information please visit
http://www.chartwellasia.com
Source:
www.isnare.com