Jerry A. Miccolis, CFA, CFP, FCAS, MAAA Senior financial advisor and co-owner, Brinton Eaton Wealth Advisors Dorianne R. Perrucci Financial author and editor Learn to: • Use allocation strategies that best serve your goals • Balance and rebalance your portfolio • Maximize returns and minimize risk Asset Allocation Making Everything Easier! ™ Open the book and find: • The top asset allocation mistakes • How to match the right investments with the right accounts • Ways to successfully manage risk • Best practices for portfolio rebalancing • “What if?” investment scenarios • Historical rates of return on ten asset classes and subclasses • How to project your financial future • Guidance for fine-tuning your long-term allocation plan Jerry A. Miccolis, CFA, CFP, FCAS, MAAA, is a financial advisor, widely quoted financial author, and expert commentator who has appeared on CBS Radio and ABC-TV. Dorianne R. Perrucci is a freelance writer who has been published in The New York Times, Newsweek, and TheStreet.com, and has collaborated on several investing books, including I.O.U.S.A., One Nation, Under Stress, In Debt (Wiley, 2008). $24.99 US / $29.99 CN / £16.99 UK Business/Personal Finance/Investing ISBN 978-0-470-40963-3 Go to dummies.com ® for more! Use allocation strategies of the pros and protect your financial future You don’t have to be an investment expert to allocate your assets successfully. This plain-English guide demystifies the process, giving you timely advice on diversifying your investment portfolio to help insulate it against volatility. You’ll see how to develop your personal investment strategy, avoid costly mistakes, and rebalance to generate extra return. • The ABCs of asset allocation — discover how it works, why to do it, and the level of risk you’re comfortable with • Explore the different asset categories — from cash and bonds to stocks, mutual funds, exchange-traded funds, and more • Plan your investment strategy — set your portfolio constraints, outline your financial goals, and select your asset classes • Choose securities and accounts — select the best ones, understand fees and expenses, and take advantage of tax breaks • Maintain your portfolio — keep tabs on your investments, know when to rebalance, and measure your results against appropriate market benchmarks • Go beyond the basics — consider alternative investments (such as real estate and commodities), maximize after-tax results, and work with the pros when you need help Asset Allocation Miccolis Perrucci Spine: 0.72” 01_409633-ffirs.indd ii01_409633-ffirs.indd ii 3/26/09 10:43:39 PM3/26/09 10:43:39 PM Asset Allocation FOR DUMmIES ‰ 01_409633-ffirs.indd i01_409633-ffirs.indd i 3/26/09 10:43:39 PM3/26/09 10:43:39 PM 01_409633-ffirs.indd ii01_409633-ffirs.indd ii 3/26/09 10:43:39 PM3/26/09 10:43:39 PM by Jerry A. Miccolis, CFA®, CFP®, FCAS, MAAA Brinton Eaton Wealth Advisors and Dorianne R. Perrucci Financial writer Asset Allocation FOR DUMmIES ‰ 01_409633-ffirs.indd iii01_409633-ffirs.indd iii 3/26/09 10:43:39 PM3/26/09 10:43:39 PM Asset Allocation For Dummies ® Published by Wiley Publishing, Inc. 111 River St. Hoboken, NJ 07030-5774 www.wiley.com Copyright © 2009 by Wiley Publishing, Inc., Indianapolis, Indiana Published simultaneously in Canada No part of this publication may be reproduced, stored in a retrieval system or transmitted in any form or by any means, electronic, mechanical, photocopying, recording, scanning or otherwise, except as permit- ted under Sections 107 or 108 of the 1976 United States Copyright Act, without either the prior written permission of the Publisher, or authorization through payment of the appropriate per-copy fee to the Copyright Clearance Center, 222 Rosewood Drive, Danvers, MA 01923, (978) 750-8400, fax (978) 646-8600. Requests to the Publisher for permission should be addressed to the Permissions Department, John Wiley & Sons, Inc., 111 River Street, Hoboken, NJ 07030, (201) 748-6011, fax (201) 748-6008, or online at http:// www.wiley.com/go/permissions. Trademarks: Wiley, the Wiley Publishing logo, For Dummies, the Dummies Man logo, A Reference for the Rest of Us!, The Dummies Way, Dummies Daily, The Fun and Easy Way, Dummies.com, Making Everything Easier, and related trade dress are trademarks or registered trademarks of John Wiley & Sons, Inc., and/ or its af liates in the United States and other countries, and may not be used without written permission. CFP and Certi ed Financial Planner are registered certi cation marks of the Certi ed Financial Planner Board of Standards, Inc., in the United States. CFA and Chartered Financial Analyst are registered trade- marks of the CFA Institute in the United States. All other trademarks are the property of their respective owners. Wiley Publishing, Inc., is not associated with any product or vendor mentioned in this book. LIMIT OF LIABILITY/DISCLAIMER OF WARRANTY: THE PUBLISHER AND THE AUTHOR MAKE NO REPRESENTATIONS OR WARRANTIES WITH RESPECT TO THE ACCURACY OR COMPLETENESS OF THE CONTENTS OF THIS WORK AND SPECIFICALLY DISCLAIM ALL WARRANTIES, INCLUDING WITH- OUT LIMITATION WARRANTIES OF FITNESS FOR A PARTICULAR PURPOSE. NO WARRANTY MAY BE CREATED OR EXTENDED BY SALES OR PROMOTIONAL MATERIALS. THE ADVICE AND STRATEGIES CONTAINED HEREIN MAY NOT BE SUITABLE FOR EVERY SITUATION. THIS WORK IS SOLD WITH THE UNDERSTANDING THAT THE PUBLISHER IS NOT ENGAGED IN RENDERING LEGAL, ACCOUNTING, OR OTHER PROFESSIONAL SERVICES. IF PROFESSIONAL ASSISTANCE IS REQUIRED, THE SERVICES OF A COMPETENT PROFESSIONAL PERSON SHOULD BE SOUGHT. NEITHER THE PUBLISHER NOR THE AUTHOR SHALL BE LIABLE FOR DAMAGES ARISING HEREFROM. THE FACT THAT AN ORGANIZA- TION OR WEBSITE IS REFERRED TO IN THIS WORK AS A CITATION AND/OR A POTENTIAL SOURCE OF FURTHER INFORMATION DOES NOT MEAN THAT THE AUTHOR OR THE PUBLISHER ENDORSES THE INFORMATION THE ORGANIZATION OR WEBSITE MAY PROVIDE OR RECOMMENDATIONS IT MAY MAKE. FURTHER, READERS SHOULD BE AWARE THAT INTERNET WEBSITES LISTED IN THIS WORK MAY HAVE CHANGED OR DISAPPEARED BETWEEN WHEN THIS WORK WAS WRITTEN AND WHEN IT IS READ. For general information on our other products and services, please contact our Customer Care Department within the U.S. at 877-762-2974, outside the U.S. at 317-572-3993, or fax 317-572-4002. For technical support, please visit www.wiley.com/techsupport. Wiley also publishes its books in a variety of electronic formats. Some content that appears in print may not be available in electronic books. Library of Congress Control Number: 2009925030 ISBN: 978-0-470-40963-3 Manufactured in the United States of America 10 9 8 7 6 5 4 3 2 1 01_409633-ffirs.indd iv01_409633-ffirs.indd iv 3/26/09 10:43:39 PM3/26/09 10:43:39 PM About the Authors Jerry A. Miccolis: Jerry’s clients, colleagues, and friends were caught a bit off-guard when, in 2003, he decided to change careers, from enterprise risk management to personal wealth management. But, toward the end of his 30-year stint in the actuarial and risk-management elds (including 25 years with the international management consulting rm Towers Perrin, where he eventually led the global enterprise risk management practice), he had already nearly achieved the two most sought-after certi cations of his chosen second career — Chartered Financial Analyst (CFA) and Certi ed Financial Planner (CFP). He’s never been happier, helping real people secure their nancial future. A senior nancial advisor at, and co-owner of, Brinton Eaton Wealth Advisors in Madison, New Jersey, Jerry adds his CFA and CFP designations to his credentials as a fellow of the Casualty Actuarial Society (FCAS) and member of the American Academy of Actuaries (MAAA). Jerry, who is also a member of the Financial Planning Association (FPA) and the New York Society of Security Analysts (NYSSA), holds a BS in mathematics from Drexel University. The coauthor of Enterprise Risk Management: Trends and Emerging Practices (The Institute of Internal Auditors Research Foundation) and Enterprise Risk Management: An Analytic Approach (Tillinghast-Towers Perrin), Jerry has chaired numerous professional committees and is a widely quoted author and speaker on the subject of strategic risk management, investment management, and their interrelationship. Jerry has been published in profes- sional journals (Strategy & Leadership, Operational Risk, Risk Management, Institutional Investor, CFO Magazine, Investment Advisor, and Financial Planning) and in the mainstream media (The New York Times, The Wall Street Journal, The Baltimore Sun, MarketWatch, MSN Money, and Marketwire). He has appeared as an expert commentator on CBS Radio, ABC TV, and IRMI. com, the Web site of the International Risk Management Institute. All of this, though, is what Jerry does between senior softball games, his real passion. There, Jerry plays third base and shortstop and bats much lower in the lineup than he thinks he should. You can read more of his and his colleagues’ investment advice at www. brintoneaton.com (click Research Corner) and about his softball addiction at www.casact.org/newsletter/index.cfm?fa=viewart&id=5639. Jerry A. Miccolis, CFA, CFP, FCAS, is a principal of Brinton Eaton Associates, Inc., d/b/a Brinton Eaton Wealth Advisors, an investment adviser registered with the United States Securities and Exchange Commission. No reader should assume that the book content serves as the receipt of, or a substitute for, personalized advice from Mr. Miccolis, from Brinton Eaton Associates, Inc., or from any other investment professional. Please remember that 01_409633-ffirs.indd v01_409633-ffirs.indd v 3/26/09 10:43:39 PM3/26/09 10:43:39 PM different types of investments involve varying degrees of risk. Therefore, it should not be assumed that future performance of any speci c investment or investment strategy (including the investments and/or investment strategies referenced in this book) will be pro table. Dorianne R. Perrucci: Dorianne jokes that she’s still looking for the 13¢ that caused her rst checking account to bounce. Dorianne, who has writ- ten for Newsweek, The New York Times, Mediaweek, and TheStreet.com, began reporting about personal nance and investing in 1998 for Jane Bryant Quinn’s Washington Post column. Previously, she reported for a daily news- paper, wrote a political column for a U.S. senator, and produced articles and books for several of the country’s leading charities, including Covenant House, the Times Square shelter for homeless and runaway youth. She cur- rently edits and collaborates on investing books, including: The Demise of the Dollar . . . and Why It’s Great for Your Investments, by Addison Wiggin (Wiley Publishing); I.O.U.S.A., One Nation, Under Stress, In Debt, with Addison Wiggin and Kate Incontrera (Wiley Publishing); The Ultimate Depression Survival Guide, by Martin D. Weiss (Wiley Publishing); and the AARP Crash Course in Creating Retirement Income, by Julie Jason (Sterling Publishing). Dorianne, a graduate of Marquette University’s School of Journalism, is a member of the American Society of Journalists and Authors and the New York Financial Writers Association. When she isn’t busy explaining the consumer’s next investment challenge, she continues to search for that missing 13¢. 01_409633-ffirs.indd vi01_409633-ffirs.indd vi 3/26/09 10:43:39 PM3/26/09 10:43:39 PM Dedication To you, the average investor, who is curious enough to wonder if a For Dummies book can really help you get superior investment results, like the pros. Asset allocation, which begins with determining the right (and the right-size) baskets for your investment “eggs,” isn’t exactly a piece of cake, but we promise, if you’re determined to learn the recipe, we’ll make the pro- cess a very satisfying one for you. Acknowledgments It takes a village to write a book. Okay, not original, but true — you need a tribe of supporters to make it safely to the “ef cient frontier” of investing. Jerry Miccolis thanks his coauthor, Dorianne, for her contagious enthusiasm and offbeat sense of humor — and for constantly nagging him to “Keep it accessible!” Numerous editorial suggestions from his Brinton Eaton colleagues — Bob DiQuollo, Ben Jacoby, Jeremy Welther, Jerv Brinton, Nick Laverghetta, Ellen Clawans, and Abby Scandlen — vastly improved the nal manuscript. Special mention to Marina Goodman, who seemed to take particular pleasure in offering blistering critiques of early drafts but also made excellent original contributions and helped prepare many of the exhibits and examples. They and the rest of the staff — Colleen Betzler, Dave Hill, Eric Mancini, Doris Merrick, Adrian Fedorkiw, Kim Dibenedetto, and Pam Trun o — graciously picked up the slack for Jerry at the of ce. Most important, Jerry thanks Marcella, his wife and muse, for her unfailing support, encouragement, and understanding, during the nights and weekends he devoted to this book. Dorianne Perrucci thanks Jerry, for his patience in explaining technical jargon and would like to ask him to explain perfect negative correlation one more time. She thanks her agent, Marilyn Allen, and the entire amazing For Dummies team, especially Acquisitions Editor Stacy Kennedy, who actually wanted to publish a book on asset allocation; Elizabeth Kuball, project editor extraordinaire; and Dummi er Brittain Phillips, whose mysterious ability to rework text works wonders. Dorianne is also grateful for her family and a host of colleagues and friends for continuing to cheer her on. 01_409633-ffirs.indd vii01_409633-ffirs.indd vii 3/26/09 10:43:39 PM3/26/09 10:43:39 PM Publisher’s Acknowledgments We’re proud of this book; please send us your comments through our Dummies online registration form located at http://dummies.custhelp.com. For other comments, please contact our Customer Care Department within the U.S. at 877-762-2974, outside the U.S. at 317-572-3993, or fax 317-572-4002. Some of the people who helped bring this book to market include the following: Acquisitions, Editorial, and Media Development Project Editor: Elizabeth Kuball Acquisitions Editor: Stacy Kennedy Copy Editor: Elizabeth Kuball Assistant Editor: Erin Calligan Mooney Editorial Program Coordinator: Joe Niesen Technical Editor: Louis J. Schwarz, QFP, CFP, RFC Senior Editorial Manager: Jennifer Ehrlich Editorial Supervisor and Reprint Editor: Carmen Krikorian Editorial Assistants: Jennette ElNaggar, David Lutton Cover Photos: © Yiap Lightbox/Alamy Cartoons: Rich Tennant (www.the5thwave.com) Composition Services Project Coordinator: Kristie Rees Layout and Graphics: Carrie A. Cesavice, Reuben W. Davis, Melissa K. Smith, Christin Swinford Proofreaders: Melissa Cossell, Jessica Kramer, Broccoli Information Management Indexer: Potomac Indexing, LLC Special Help: Brittain Phillips Publishing and Editorial for Consumer Dummies Diane Graves Steele, Vice President and Publisher, Consumer Dummies Kristin Ferguson-Wagstaffe, Product Development Director, Consumer Dummies Ensley Eikenburg, Associate Publisher, Travel Kelly Regan, Editorial Director, Travel Publishing for Technology Dummies Andy Cummings, Vice President and Publisher, Dummies Technology/General User Composition Services Gerry Fahey, Vice President of Production Services Debbie Stailey, Director of Composition Services 01_409633-ffirs.indd viii01_409633-ffirs.indd viii 3/26/09 10:43:40 PM3/26/09 10:43:40 PM [...]... “Appreciating the science of asset allocation sidebar in this chapter to find out why.) Asset allocation gives you a much better chance of ending up with more money in the long run How’s that for unexciting? 05_409633-ch01.indd 13 3/26/09 10:47:03 PM 14 Part I: Discovering the Not-So-Secret Recipe for Asset Allocation Appreciating the science of asset allocation Sometimes, asset allocation and its associated... But this also a true For Dummies book, so feel free to bounce around and read a little here and a little there, depending on what you’re interested in and what you want to understand first 03_409633-intro.indd 3 3/26/09 10:45:45 PM 4 Assett Allocation For Dummies Part I: Discovering the Not-So-Secret Recipe for Asset Allocation In Part I, we lay out the basics behind the asset allocation recipe, which... diversifying the assets you choose for your portfolio But diversification isn’t all there is to asset allocation In order for you to figure out your ideal asset allocation, you need to assess the level of risk you’re comfortable taking in exchange for the return you’re seeking In other words, how much are you looking to make, and how much risk are you willing to take on? We also look at the many types of asset. .. understanding of asset allocation s core concepts and guide you toward the asset allocation that’s right for you We show you how to use the efficient frontier in Chapter 2 Selecting your asset classes An early step in asset allocation is determining the asset classes (groups of investments with similar characteristics) that you want in your portfolio In Chapter 3, we take you on a tour of the asset classes... bird’s-eye view of asset allocation We hit all the high points, and, as we go, we point you to the chapters you can visit to get a more detailed treatment of each topic 05_409633-ch01.indd 11 3/26/09 10:47:03 PM 12 Part I: Discovering the Not-So-Secret Recipe for Asset Allocation Figuring Out Why Asset Allocation Is So Important When it comes to your investments, what’s more important than asset allocation? ... Your Asset Mix 65 Putting the 90 Percent Solution to Work for You 66 Keeping your eye on the important 90 percent: Allocating your assets 67 Avoiding focusing on the other 10 percent 67 Embracing asset allocation s guiding principle 68 Laying the Foundation for Successful Asset Allocation 68 Understanding correlation 69 Discovering the appeal of non-correlated assets... own Part V: The Part of Tens If you like top-ten lists, this part is for you! The three chapters in this part help you jump-start your asset allocation with easy-to-digest (and interesting) information Our list of ten important asset classes with their historical rates 03_409633-intro.indd 5 3/26/09 10:45:45 PM 6 Assett Allocation For Dummies of return is a valuable reference you can use on its own, or... 19 Mastering asset location 19 Monitoring your portfolio to stay on target 20 Measuring your results 20 Reaching Past the Asset Allocation Basics 21 Adding alternatives 21 Tackling taxes 22 Altering your allocation 22 Embracing expert help 22 02_409633-ftoc.indd xi 3/26/09 10:45:14 PM xii Asset Allocation For Dummies Chapter 2:... Not-So-Secret Recipe for Asset Allocation 9 Chapter 1: Understanding Asset Allocation 11 Chapter 2: Weighing Risk and Return 23 Chapter 3: Making Sense of Asset Classes 43 Chapter 4: Determining the Right Proportions: Your Asset Mix 65 Chapter 5: Stirring the Mix: Portfolio Rebalancing 81 Part II: Getting Started 97 Chapter 6: Laying the Foundation for Your Plan... places in the book where you can find information you may need to better understand what we’re talking about Whichever way makes sense to you — dig in, you (and your portfolio) will reap the rewards! 03_409633-intro.indd 7 3/26/09 10:45:45 PM 8 Assett Allocation For Dummies 03_409633-intro.indd 8 3/26/09 10:45:45 PM Part I Discovering the Not-So-Secret Recipe for Asset Allocation 04_409633-pp01.indd 9 3/26/09 . Perrucci Financial writer Asset Allocation FOR DUMmIES ‰ 01_409633-ffirs.indd iii01_409633-ffirs.indd iii 3/26/09 10:43:39 PM3/26/09 10:43:39 PM Asset Allocation For Dummies ® Published by Wiley. Discovering the Not-So-Secret Recipe for Asset Allocation 9 Chapter 1: Understanding Asset Allocation . . . . . . . . . . . . . . . . . . . . . .11 Figuring Out Why Asset Allocation Is So Important. 313 02_409633-ftoc.indd xvii02_409633-ftoc.indd xvii 3/26/09 10:45:14 PM3/26/09 10:45:14 PM Asset Allocation For Dummies xviii Chapter 19: Ten Questions to Test Your Asset Allocation Know-How . .