Here is a recap of market performance for the month of January:
In the last article, we discussed the benefits and challenges of investing in a diversified portfolio. On one hand, diversification helps improve overall returns and reduce risk in the long term. On the other hand, it means grappling with the certainty that in any given year, overall portfolio returns will always be less than the best-performing fund they hold.
Most investors focus on past returns, and for good reason. Returns are the scoreboard – they determine which investments won or lost during a given time period. In football, it’s rare for the last year’s Super Bowl Champion to repeat, and the same is true of investments: buying more of last year’s best-performing investment is rarely a winning strategy. So in addition to evaluating what happened (the investment did, or didn’t, do well), it’s also important to know why it happened. For example, funds can have widely different exposures to the various sectors of the economy.
The table below shows the composition of three popular exchange traded funds: QQQ tracks the Nasdaq 100 index, and SPY tracks the S&P 500. Both of these indexes are almost exclusively comprised of US stocks. VEU follows international (non-US) stocks.
As you can see, funds can be very distinct. QQQ has 82% of its assets in 3 sectors, and almost half its assets in technology stocks. It has no exposure to basic materials, real estate, or energy. VEU has noticeably higher amounts in financials, energy, basic materials, and industrials. The composition of these funds is quite different. While this is not necessarily good or bad, it is something to be aware of. Like a tool box should have a variety of tools, a portfolio should have an appropriate mix of investments. (You don’t need to have 40 hammers when one or two will suffice!) It’s important to have a selection of investments that serve different purposes in your portfolio so that it can have the best chance of helping you regardless of what happens next.