Thursday, January 26, 2012

Ask your financial planner this!

Here is a question to ask yourself, and your financial planner.

Should my equity correlated asset allocation be the same after a huge 5 years bull market as it is after a 30% fall in the equity market?

The top half of this graph is what the Australian All Ords performance was like when a major Australian Bank's financial planner recommended an asset allocation highly correlated to the stock market and including a proportion of geared equities.

The bottom half is what the All Ords performance is like today.

What proportion would you want in equities at each point in time? (Don't forget the old adage, "buy low, sell high"

In the top half, you can see that the market had performed incredibly well over 2, 3, 4 and 5 years, being better than 90% or historical performances for these lengths of time. The bull market had also been going significantly longer than the median length of all bull markets since 1984.

Is this a good time to have a very high proportion of assets switched to the stock market, or assets with a high correlation with the stock market, and into geared equities?

The bottom half of the graph is now. Any bull market has just started after a 20% drop in the market to 26 September 2011 bottom. Performance for 1, and 2 years is in the bottom 20% of scores and well below median performance for those periods since 1984. Performance over 4 and 5 years is in the bottom 1% of such performances since 1984. The 3 year performance is above average as it reflects the climb from near the deep bottom of 6 March 2009.

The chart above shows the historical performances over 1 to 5 year periods from 1985 to January 2012. It shows approximate dates of tops (red) and bottoms (green) by vertical lines. Tops occur when performance has been good for 3 (bright dark blue) or more years. Bottoms occur when performance has been very bad for 1 year (pink line).

When the market is down about 15% or more and is turning up, it is more likely to be a time to increase equity exposure than it is when the market has been going gangbusters for over 3 years and 3 (and maybe 4 and even 5) year performances are excellent.

This is something that ought be considered, among many others, when reviewing a proposed or existing equity correlated allocation of investments.


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