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Investment Management - Part 2

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Types of Securities and Their Purposes:

Portfolio Asset Allocation is the process used to identify the percentages of the portfolio that will be invested in each of two types of Investment Securities: income and equity. These percentages will (and should) vary between portfolios that have differing goals and objectives. For example, a portfolio being managed to create an education fund ten years from now would have a much larger equity allocation than one designed to produce retirement income right now.

The primary purpose of equity securities (common stocks) is to produce growth in capital. Dividends generated in the process are a secondary benefit, and should never be the reason for an equity holding. But never lose site of the simple truth that only realized gains count! Most Unrealized Gains on brokerage account statements reach the Schedule "D" as realized Capital Losses.

The purpose of income securities (all bonds, preferred stocks, REITs, etc.) is to generate cash flow in the form of dividends, interest, and returns of principal. These securities are Interest Rate Sensitive, meaning that their market value will vary inversely with interest rate expectations. Thus, they will occasionally produce capital gains opportunities. Such gains are gravy only, and should never be included in one's income projections. Never forget to take you profits on income securities.

Establish a Personal Investment Management Style or Strategy:

There are many suitable investment management styles that an individual can learn, understand, and implement once reasonable goals and objectives have been identified. An appropriate strategy will fit well with the Plan, the Asset Allocation, and the investor's emotional discipline.

To be suitable, a strategy must contain several clearly identifiable elements or disciplines, along the lines of the key decisions that a manager needs to make on a day to day basis (buy, sell, hold). Most off-the-shelf investment style products emphasize just one of these elements: What to Buy, When, and Why. Certainly this is important, but there are several other investment decisions that can't be left to whim or to chance. Be careful not to embrace a buy strategy that is based on any kind of predictions. Finally, human emotions must be taken out of the equation entirely.

The strategy (Your Strategy) must also include clear, target based, selling (profit taking/loss taking) rules. There must be parameters that define the size of initial commitments to a security and a plan for adding to holdings. It is especially critical that you have an objective based method (see: the Working Capital Model) for monitoring portfolio performance.


Additionally, the  income portion of your portfolio must be dealt with differently than the equity portion.

The Final Word(s):

Regardless of how well you design your portfolio and create a decision making model that is easy to implement, you must also be able to unemotionally stick to your guns in the face of massive media attacks that just could make you change direction for any number of reasons.

To successfully manage your investment program, you must be consistent in your decision making, disciplined in applying your rules, and patiently determined to allow enough time for your strategy to succeed. One year is not nearly Long Term, and not nearly enough time for any well thought out Investment Strategy to prove itself.

Over the years, and its been a lot of years, I have yet to find a correlation between any Stock Market, Economic, Business, Interest Rate, or Hem Line Cycle and... the Calendar Year.

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