Welcome to How to Retire on Time, a show that answers your questions about all things retirement, including income, taxes, social security, health care, and more. This show is an extension of the book, How to Retire on Time, which you can grab today on Amazon or by going to www.how to retire on time.com. My name is Mike Decker. I'm the author of the book, How to Retire on Time, but I'm also a licensed financial adviser, insurance agent, and tax professional, which which means when it comes to financial topics, we can pretty much discuss it all. Now that said, please remember this is just a show.

Everything you hear should be considered informational as in not specific financial advice. If you want personalized financial advice, then request Your Wealth Analysis today from my team by going to www.yourwealthanalysis.com. With me in the studio today is my colleague, mister David Fransen. David, thank you for being here.

Yes. Thank you for having me.

David's gonna be reading your questions, and I'm gonna do my best to answer them. You can submit your questions at any time by texting them to 913-363-1234, or you can email them to hey mike@howtoreontime.com. Let's begin.

Hey, Mike. What do you think a diversified portfolio should look like?

I like this question because there's a sense of openness from a learning perspective in here. So diversification is a fundamental principle when it comes to finances. You don't put all your eggs in one basket. I think people inherently understand that that concept. Yeah.

We're not all going to get rich on just betting on Bitcoin. We're not going to all get rich on accidentally picking the next Nvidia. Right? There's there's a sense of purpose behind diversification. But what I think is interesting about the question is it inherently assumes that diversification is with a single strategy in picking stocks in the cliche form, like small cap, mid cap, large cap emerging markets.

All these these terms that most people don't actually get.

Yeah.

Small cap, mid cap, large cap. Before you started working here, did you have a clue? Or you heard those terms?

Yeah. Everybody hears about them, but do we really know what they mean? What what what's a large cap company? What is cap?

Yeah. What is cap? So let's break down the cliche traditional diversification strategy. The idea is you have different groups of either indices or sizes of companies or large cap companies, a large business. So large capitalization.

There's just a lot of money invested in this company. So if you think of the S and P 500, those are large US based companies. They're not the largest. They're just large companies that the S and P has handpicked for their index. A small cap.

These are smaller sized companies. A smaller company might have more risk, more is more growth potential, but there's more risk around it. It might wiggle around on the day to day basis a little bit more. All these things, the idea is each of these groups might have a better year or a worse year. And you don't really know.

Over the past couple of years, large caps have kind of been the winning horse if you were to pick horses. Right?

Yeah.

But in some years, small caps might be the winning asset class as it's been identified. Now you could also look at diversification in a completely different way. So you might look at your diversification in the sense of let's put a little bit into utility stocks or let's put a little bit into technology. So now we're categorizing it by the type, not necessarily the class. Okay.

And I'm simplifying this for the more technical people. You might get upset with me by, well, that's not a definitionally correct. I'm keeping it simple here.

Yeah.

I just want you to understand the different ways that people might, quote unquote, diversify your portfolio. But all of this is kind of around the same strategy. You buy and hold. That's it. So when it comes to diversification, it's really a conversation about how to diversify within one strategy or one product, which is the asset allocation model.

Here's how it really works. So you go to a big box company and you say I wanna invest in the market and they say great. Fill out the suitability questionnaire and based on how you answer the questionnaire, they give you a suggested diversified portfolio. And maybe they chose to do it by diversifying you against small cap mid cap large cap emerging markets, you know, blah blah blah blah. It looks good.

On a basic level, it's a good idea. Okay? But is it right for you? Does it make sense? How does it coordinate with your plan?

It's just a single strategy. And this is what bugs me. Because when I think of diversification, I think of diversification based on objectives. What are you trying to accomplish? Let's say you're 30 years old and you're trying to grow your assets.

Okay. Maybe you put most of your assets in the market. Let's say 60% in equities or stocks which have more growth potential but less risk and 40% in bond funds. Because if the markets crash bond funds could lose money you're trying to stabilize your overall growth objective. Great.

Well, what about I don't know. What if you died? How how is this gonna help offset a surviving spouse? Oh, well there's term life insurance. Well, yeah.

Maybe there is. But maybe you can use other strategies to incorporate in your overall plan. Maybe use index universal life insurance so it covers your term life insurance, your death benefit needs, and you're growing cash value in a tax free situation that you can borrow against. That's not really included in the typical diversification strategy. Are you diversifying by companies?

Are you diversifying by risk? Are you diversifying by goals? Let's say you have a goal that you wanna buy a new house in 3 years. How are you gonna put that portion of money? Are you gonna put it in the market?

Well, when what if in 3 years the markets crash? And now it's down. You don't wanna draw income. There's a there's a time issue here. Right.

So diversification isn't just buying a little bit of everything in the equities market or the bond market. It's diversification based on timelines and objectives, in my opinion. I have a hard time saying that broad diversification is a good and and you should just shut up and sit down and and do what we say because that's just what everyone does. That's just stupid.

I don't like that.

Yeah. You like cliches?

Just just

do what everyone else is doing. Well, you're unique. So let me give you a list of, in my mind, a couple of other ways we would consider diversification. Short term needs, a part of your assets should be allocated to those needs. If you want to buy a house, maybe you don't risk it in the market.

Maybe you have some of it in 1 year CDs or 2 year treasuries because you want to buy in a couple of years. You want some growth. Maybe you got some in the market, but it's not super risky stocks.

Okay.

K? You know, the the tried and true more basic kind of positions. And then the timelines make sense. The companies or the companies are invested in, all of that matters. Do you need growth, liquidity, or protection?

Sorry. We only get to pick 2. Short term needs long term needs and then I do think everyone should have some sort of reservoir. I define a reservoir as basically a portion of your assets that are principal protected. So it can't lose money.

So let's say if you're 30 40 50 years old and still working and you lose your job and the market's down, you have this resource to pull from that's principal protected to get you through until your assets recover or you get a new job.

Makes sense. Yeah.

In in retirement, your reservoir is there to draw from so you don't accentuate your losses on the other accounts until they recover. Right? So there there has to be an objective based or purpose based understanding of how you're diversifying because putting all your assets into stocks and bonds or bond funds isn't the end all be all. There has to be purpose behind it. That's why I say plan first then seek efficiency, which is an exploration of strategies that can help you get more out of your money and then look at the portfolio and how you wanna diversify it.

Now the question inherently, I think, asks how do you diversify your assets within the growth part of your portfolio? That's typically what people are asking.

Sure. Yeah.

Well, first off, you need to understand there are basically 6 markets you can invest in. Cash and cash equivalents, money markets or CDs or savings accounts. You've got your bond market, which is the biggest market, less growth potential overall, but it's good for when markets go down help even things out. You have the equities market the stock market. You've got the real estate market, which I don't think is talked about enough.

The real estate market specifically is if you have a rental portfolio. So you're a landlord. Maybe you've purchased some privately held REITs that have competitive dividends. So you're growing your assets based on the dividends that you could reinvest in other things. Right?

Or in retirement, you could have a dividend focused portfolio for income. But that's not talked about. And by the way, publicly traded REITs are not nearly as competitive, in my opinion, than privately traded REITs.

Why is that?

Publicly trader REITs have to keep a lot more cash on hand. If you have a lot of cash on hand? It's not making money.

Alright.

They're less competitive and they're kind of antiquated. They're just kind of they've got a older portfolio. So privately held REITs can restrict you liquidating them. Once a year twice a year maybe 4 times a year you can request to liquidate your shares which means someone else has to buy it but the reason why they restrict it is because they've got more money working for you. So you've got to be like a sniper and really pick out a better version of a REIT but that might be a more appropriate way to diversify your portfolio.

JPMorgan did some interesting research on this. They found that by adding alternatives, specifically real estate to a portfolio, a asset class that is not talked about a lot, that you can increase your overall growth while decreasing your overall volatility or you know the roller coaster that everyone complains about. And the equities market and the bond market and the real estate market are not correlated. They're all 3 separate markets. Okay.

You have the insurance market. So do you want annuities fixed or fixed index annuities as a bond alternative or a CD alternative? Do you want income from them? Do you not want income? And I say that somewhat jokingly because my whole book how to retire on time preaches about why you probably don't want guaranteed for life income from an annuity, but I'll digress there.

I'll leave that be. You can read about it later. You can buy index universal life insurance if you want so you can kind of grow the assets. You can generate some income there, do some tax planning with it, have a death benefit for the surviving spouse. There's term life insurance.

There's there's asset based long term care. I I laugh because I've never actually sold it. I'm licensed to sell it. I've never actually sold it, though. You just compare the numbers and could you self insure, And it's just you're comparing numbers.

It's just finance. Right? But these are other ways to diversify holistically. The real estate market, the alternative market, private equity, private debt. So there's an expensive level of diversification that also could be there.

But here's what I think is is most appropriate when it comes to looking at diversifying a portfolio. And that is diversifying by strategy. This is not talked about enough. Think about what is your investment strategy. For most people, it's passive by the indexes.

K. So relative return theory, which is what this falls under, is defined as you buy a bunch of basically funds and you get the relative return of whatever happens. If the indexes go up, your return is relative. You just kind of it is what it is. Whatever happens happens.

Well, that works great when the markets just go up. It makes for good returns when the markets kind of emotional like it has been this year. There's some whipsaw some like, oh, is the market gonna crash and then it recovers really quickly. But it's not the end all be all strategy. So in my mind diversifying your portfolio not just by picking a bunch of stocks or funds or bond funds or whatever, but diversified by strategy really has a lot of benefits to it.

So let me give you an example. What if a portion of your portfolio was set or allocated to absolute return strategy? Absolute return is a theory that's defined as that you buy a position and you're gonna hold it for a certain amount of time. The idea is we don't care what the market's doing. We just wanna know where's the best place to put our money for a predetermined period of time that has growth potential.

So hedge funds use this terminology often. Endowments use this a lot. A lot of big money. A lot of wealthy people will go into absolute return. It's difficult to do.

I don't recommend doing your own. But if you find someone like Kendrick, like us here that can do this, that do do this, that may be a part of your overall strategy. And then fundamental analysis, which is defined as basically what's a good company or good position you could buy now that you believe is undervalued And then you hold it until it is the expected value.

Okay. Okay.

So you you see a company say, I think it's actually worth x based on your analysis. You're not gonna hold it for a predetermined period of time. You're gonna hold it until it hits its expected value. Then you get out and you look for undervalued positions. So notice the 2 different technical or more difficult things, absolute return, which is a strategy most people haven't heard about.

Where you're gonna buy a position for a predetermined period of time and then sell it and then look for the next deal. Fundamental, which says we wanna buy undervalued positions and hold it for an undetermined period of time. Do you see how both of those could play to your advantage if you're seeking efficiency within a market? Mhmm. They're just really hard to do.

Yeah. Seems like, you'd have to know a little bit and have a lot of time invested in research. Right?

Yeah. But those are different strategies. So let's say you put 25% of your growth focused portfolio. So not all of it, but, you know, the part that you want long term growth. 25% of it goes absolute return.

25% goes to maybe fundamental positions. So there's an old expression from Benjamin Graham. I think it was that says the price of any given day is basically a voting machine. What people think is is happening in the market. K?

So things might get a little wonky. Your price might go up and down. Right? K. But over the long term, the price kind of evens out and the proper value would would find its

way. Okay.

K? So let me explain kind of a third strategy here. Maybe you put 25% of this tactical momentum strategy. This is where you're looking at which index or which industry. So like utilities, energy, tech, which part of the market has good momentum.

Alright.

And maybe you shift for a period of time where the momentum is going up and then you shift when the momentum changes. This is kinda like investing based on the tide. Is the tide coming in or going out and you wanna go into where the tide is in your favor. And then the last one maybe you'd you'd be put 25% into relative return just buying and holding the indexes. But do you see how it's not just picking stocks here and just following one strategy?

Yeah. There's a benefit of diversifying based on the strategies. And at least we do this at Kedrick, but I don't think a lot of people really dive into this kind of detail of saying, well, nothing's perfect out there. Why do you diversify with a bunch of stocks? Because you don't know which one's gonna outperform the others.

Well, why wouldn't you also take that same idea, that same principle and diversify among strategies? That's all the time we've got for the show today. If you enjoyed the show, consider subscribing to it wherever you get your podcast. Just search for how to retire on time. Discover if your portfolio is built to weather flat market cycles or if you're missing tax minimization opportunities that you may not even know exist.

Explore strategies that may be able to help you lower your overall risk while potentially increasing your overall growth and lifestyle flexibility. This is not your ordinary financial analysis. Learn more about Your Wealth Analysis and what it could do for you regardless of your age, asset, or target retirement date. Go to www.yourwealthanalysis.com today to learn more and get started.