Investment Strategy, Chasing Performance, or Market Timing? Help!
, on February 21, 2008
A while ago, I asked the question: how much should we invest internationally? Ever since, I came to believe that I am over-weighted in U.S. equities at 72% invested. I believe that my international equities exposure should be closer to 50%, when you consider that the U.S. Gross Domestic Product only represents 20% of the world (sources: CIA.gov) and U.S. market capitalization only represents 29% of the world (source).
This sentiment was later confirmed by Larry Swedroe’s comment:
…I think the best way to address the issue is to make sure your investments are globally diversified and unhedged. So the way to do that is to include a large percent of international (non-Canadian) investments in your equity holdings. For Americans I typically suggest 50% international.
A few days ago, I received an email from Steve, one of my blog readers. In the email, he wrote:
I have recently decided that I have too much exposure to US equities and would like to diversify. The problem is that the asset classes I would like to add (developed foreign, emerging markets, REITs, commodities) have all had tremendous run ups over the past 5 years. I am buying for diversification, but in this case the result is the same as someone chasing performance. How would you recommend proceeding?
So Steve and I share a similar dilemma. If I change my asset allocation to increase my international exposure, am I:
- Making a Strategic Investment Move – Since my research has shown that my exposure should be closer to 50%, the change I’d be making is a strategic move. I am basically adjusting my strategy based on new information.
- Chasing Performance — Since international equities did great during the past 5 years and our domestic equities are depressed, I am chasing performance by selling domestic and buying international. In effect, I am selling low and buying high.
- Timing the Market – If I believe that I am chasing performance and not executing on what I believe to be a strategic move, I am in essence trying to time the market. For instance, I am waiting for the domestic equities to go up before I sell them off to buy international.
I have been itching to make the move in my 401k plan, and as you can see it’s not an easy decision. To add to the problem above, here are other decisions that I have to make:
- Rebalance all at once, or change new contributions to reflect the desired allocation? — With the first option, I risk buying low and selling high. With the second option, my allocation will eventually get there, but it could be a long time.
- Too much invested in a small number of funds — In my 401k plan, I have 6 domestic funds to choose from, but only 2 international funds. If I shift to 50% international, am I subjecting myself to the mercy of these 2 funds?
What would you do if you were in my shoes?
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