What is the optimal investment portfolio? Is it the one that
contains the hottest performing stocks and funds? Actually, it's
the portfolio that perfectly represents a person's psychology, life
circumstances, financial needs, and future goals.
My latest Portfolio Report Card is for K.B., a 49 year-old U.S.
Marine Officer serving overseas. He told me he considers himself a
"moderately aggressive" investor and have enough money to retire
comfortably is his biggest concern.
Ron Grades a Software Executive's $1 Million
He self-manages a 401(k) retirement plan with $171,946 invested
across 12 mutual funds and two individual stocks; Apple (NasdaqGS:
AAPL) and Keryx Biopharmaceuticals (NasdaqCM:KERX). Does K.B.'s
portfolio pass or fail? Before I assign his retirement portfolio a
final grade, let's examine it together.
Any person that claims to have a diversified portfolio should
market exposure to all the major asset classes - not just the ones
they like or are momentarily hot.
K.B.'s portfolio does a good job covering major asset classes
like large-cap U.S. stocks (Nasdaq:DODGX), mid-cap U.S. stocks
(Nasdaq:MGOAX), small-cap U.S. stocks (Nasdaq:SASMX), bonds
(Nasdaq:FKINX), and real estate (Nasdaq:FREAX). Even so, he's not
out of the woods. Why?
Since 71% of his portfolio is allocated in the MetLife Stable
Value Fund - a cash preservation strategy - owning these other
asset categories does little to help his overall diversification.
Also, some of his holdings like MGOAX, VIMAX, SMGIX, DODGX, and
VETAX are unnecessary duplication because they own the same types
A properly built portfolio should accurately reflect a person's
true risk tolerance along with their unique investor
Although K.B. classifies himself as a "moderately aggressive"
investor, his portfolio's current design isn't compatible with that
In this case, he's got 71% in cash assets, 27% in stocks and the
remaining 2% in bonds and real estate. Put another way, K.B.'s
current asset mix matches the risk profile of a conservative
investor with capital preservation as their main goal.
As previously mentioned, K.B.'s largest holding is the MetLife
Stable Value Fund, which charges annual expenses of 0.66%. Five of
his mutual funds have upfront sales loads in excess of 4% and
annual expense ratios above 1%. He's getting taken to the cleaners
Although he owns two Vanguard funds with rock bottom expenses -
VINIX charges just 0.04% and VIMAX charges just 0.09% annually -
the bulk of his assets are invested elsewhere in funds with
substantially higher operating costs.
If he leaves his current investments in place, I estimate K.B.
will forfeit in fees around $17,000 or 10% of his current
portfolio. That's a lot of money to be leaving on the table!
Most 401(k) plans have no problems when it comes to tax-efficiency,
but not in K.B.'s case. That's because he has an $8,100 outstanding
401(k) loan. Here's what that means: If he terminates his job for
whatever reason without paying off the full balance of the loan,
the money becomes taxable income. And until he completely pays off
the loan, it'll continue to be a potential tax liability that
seriously threatens the health of his retirement account.
The correct standard of an investment portfolio's performance is
how it performs relative to a blended mix of passive index funds or
From June 2013 to June 2014, K.B.'s investment portfolio gained
14% while a portfolio of passive index ETFs that reflect a
moderately aggressive investor that matches his profile gained
K.B.'s final Portfolio Report Card is a "D." Unfortunately, his
portfolio is not compatible with his risk profile and is
overexposed to low yielding cash. Moreover, he hasn't taken
deliberate steps to minimize the cost of his mutual fund
K.B.'s outstanding 401(k) loan will be a constant tax threat
until he pays it off. And his portfolio's one-year performance
trailed a basket of index ETFs, which means he would've been better
off with the latter choice.
Portfolios with a "D" are poorly designed and have major flaws
that require immediate and major changes. Hopefully, K.B. can
overhaul his portfolio and get back on track.
Portfolio Report Card
challenge stands: If your investment portfolio scores an "A",
you'll get paid $100. Ron grades family trust accounts, 401(k)
rollovers, 457 plans, 403(b), UGMA accounts, and anything posing as
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