How are key asset classes doing amidst the current stocks rally, and in perspective of the Q4 2008 market debacle and the preceding months?

click images to enlarge

Barclay’s Aggregate Bond Index: BND

In terms of the 200-day simple moving averages, aggregate bonds are in an uptrend. The trend has been weakening since the beginning of 2009, but the class rallied hard on news of the latest Treasury bailout plan for private-public investment in bank toxic assets.

Deutsche Bank Dollar Index: UUP

The Dollar is also in a 200-day uptrend, but it’s been a roller-coaster ride, and the shorter-term averages are currently heading down.  The massive expansion of US money supply will probably reduce the value of the Dollar, but that is in dynamic tension with the demand for Dollars to buy Treasury bills and

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There is an alleged ancient Chinese curse, “May you live in interesting times.”

While there is no historical proof of the origin of that curse, there is ample current proof in the securities markets that we are living in interesting times. It’s simply nasty out there — or at least it feels that way.

The image shows the year-to-date performance of six key asset classes:

US Total Stk Mkt (VTI)
Non-US Developed Stk Mkts (EFA) – excludes Canada
Emerging Markets (EEM)
US Equity REITs (VNQ)
Commodity Basket (DJP)
US Aggregate Bonds (AGG)

Commodities are up, REITs are up but rolling over, and everything else (stocks and bonds) is down.

Click image to enlarge

That made us think about advice from Warren Buffet for difficult times. Here are some of his comments that may be relevant as investors watch wilting portfolios:
Occasional outbreaks of those two super-contagious diseases, fear and greed, …

Lately, it’s been hard to find a safety zone in the markets. Most key classes are down for the YTD, 4-week and 2-week periods. Only commodities, oil in particular, have been bright spots. The following charts use these ETFs as proxies for key asset classes: VTI - US stock market EFA - non-US developed stock markets EEM - non-US emerging stock markets VNQ - US equity REITs DJP - global commodities* USO - oil alone AGG - US aggregate bond market * DJP represents the DJ-AIG Commodity Index which is a “balanced” index. It limits any one of the 19 commodities it follows to a 15% weight, and any of the 5 commodity groups to a 33% weight. Since oil has been the overwhelming performer lately, DJP underweights oil in comparison to its world significance. The S&P GSCI Commodity index represents its commodities on a world production basis. For a more detailed ...

The practical challenge when tax loss harvesting is maintaining a continuous asset class exposure at target levels without time gaps, while avoiding penalties under the IRS Wash Sale Rule (IRC Section 1091).

The problem with time gaps is that significant market moves can occur in the 30-day waiting period of the Wash Sale rule, which would prevent the portfolio from achieving the risk and return expectations on which the portfolio asset allocation was designed.

The solution to the problem is substitution. Immediately upon realizing a loss in one fund, open a position in an alternate fund that is similar to, but not “substantially identical” to, the fund on which the loss was realized.

After the waiting period of 30 days, close the substitute fund position and reopen the original position (assuming …

The practical challenge when tax loss harvesting is maintaining a continuous asset class exposure at target levels without time gaps, while avoiding penalties under the IRS Wash Sale Rule (IRC Section 1091).

The problem with time gaps is that significant market moves can occur in the 30-day waiting period of the Wash Sale rule, which would prevent the portfolio from achieving the risk and return expectations on which the portfolio asset allocation was designed.

The solution to the problem is substitution. Immediately upon realizing a loss in one fund, open a position in an alternate fund that is similar to, but not “substantially identical” to, the fund on which the loss was realized.

After the waiting period of 30 days, close the substitute fund position and reopen the original position (assuming the alternate fund is a second best choice). Or, if the substitute fund is equally attractive for

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Stocks in the US are often classified by market capitalization or by style (growth, value or blend). Those differences are not sufficient to create different asset classes, but within the US stocks asset class they have produced different results.

The categories are similar in character and their correlation with the broad US market is high (from the low 80’s to the high 90’s). For those reasons, they just don’t work well as separate asset classes. That said, they may present some element of opportunity for sub-class rebalancing gains due to return rotation within an allocated portfolio.

The chart shows the return for the index of each category for each of 11 calendar years, including 1997-2007. The top half of the chart color codes each year for each index category based on the …

Stocks in the US are often classified by market capitalization or by style (growth, value or blend). Those differences are not sufficient to create different asset classes, but within the US stocks asset class they have produced different results.

The categories are similar in character and their correlation with the broad US market is high (from the low 80’s to the high 90’s). For those reasons, they just don’t work well as separate asset classes. That said, they may present some element of opportunity for sub-class rebalancing gains due to return rotation within an allocated portfolio.

The chart shows the return for the index of each category for each of 11 calendar years, including 1997-2007. The top half of the chart color codes each year for each index category based on the level of return. The bottom half of the chart color codes each year according to

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This screened ETF list is based on a combination of features that are often requested by more cautious equity investors:

funds with history and reasonable liquidity acceptable expense ratios for the type of portfolio not too much volatility for the return some current yield better total returns than bonds

The funds in the list are not recommendations. They are simply idea possibilities for do-it-yourself investors who may find the particular screening criteria useful.

The funds do not represent a full spread of the asset classes which we believe should be in a well designed portfolio.

The universe from which they were filtered is the entire database of hundreds of ETFs at www.IndexUniverse.com.

Important Note:

The fact that cautious investors ask the kinds of questions on which the filter is based, does not mean the funds that make it through the filter are conservative or necessarily good investments. In fact, some

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We believe it is important to look at return and volatility risk in both absolute and relative terms. For relative performance, we think the 10-year US Treasury bond is a good base to use, because is it relevant to all asset classes.

It relates as well to stocks as to bonds, to real estate, to commodities or to just about any asset class.

Tables of numbers have their place and use, but we also believe a picture is worth a thousand words. We try to put important data into visual formats to make it easier to see meaning. Some people do better with numbers in tables and some do better with pictures. Here is our way of visualizing risk adjusted return.

We call our proprietary way of calculating returns and volatility relative to government bonds “Treasury Indexed Quotients (TIQ)”, a registered trademark.

Each month, we calculate the TIQ for

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One of the principal reasons for asset allocation is risk management. 

Market risk is generally defined as return fluctuation – volatility.  That is different than issue risk (the risk of owning a single stock or bond issue), which includes not only volatility, but also the risk of company bankruptcy or default on bonds.

While most investment professionals understand and take the risk reduction aspect of asset allocation for granted, that is not the case for all investment advisory clients.  We have been asked on more than one occasion, how we know that to be true, and for some evidence of that truth.

There are probably many ways to respond to that question, one of which is with a practical example with real market data.  We have created one such example for this article.

The image below shows the relative weekly return and weekly rate of change of six index investment funds representing six major

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