Advisor Services: Model Portfolio Program
The Model Portfolio Program (MPP) is a carefully selected series of portfolios designed to balance return and risk. Each portfolio is constructed with a different risk/return profile to meet the objectives of our clients. The MPP portfolios are primarily composed of professionally managed stock and bond mutual funds. There are seven different portfolios in the series. Our goal is to provide equity-like returns with only bond market risk.
Frequently Asked Questions
Why should this program interest me?
What do you mean by "investments each having a role to play?"
How do you choose stocks or equity mutual funds for the MPP?
Why do stock groups and market cycles matter?
What are the differences between the MPP Portfolios?
On what do you base expected returns?
Why should this program interest me?
Most investors choose investments on the basis of what each individual security or mutual fund is expected to return over some period of time. There is less thought given to how volatile the investments may be, the appropriate time horizon required to earn the expected return, or whether the investments work together to provide adequate safeguards against capital loss.
The MPP is built on the notion that portfolios should be optimized (correctly balanced between risk and return) and not maximized (constructed to attain the highest return possible). Maximizing returns as an objective often leads to capital losses. Losing fifty percent of your portfolio value requires a subsequent return of one hundred percent to get back to where you started. And that event may lead you to take even more risk. Each MPP portfolio helps you to understand clearly the profile of risk and return that you have. They are composed of investments each having a role to play in helping to provide a return that is steady and consistent.
{Return to top}
What do you mean by "investments each having a role to play?"
To attain attractive returns over time (say 5 years), a portfolio has to minimize its chance of losing capital. The best way of achieving that is to have investments that play different roles. For example, in our Growth Portfolio, though the name suggests a portfolio of stocks or equity mutual funds, there is a 25% target weighting in bonds. This is because the role of bonds is to provide income (which is one part of return) and also, importantly, to cushion the value of the portfolio in case the stock market falls. Usually during times of declining stock prices, the prices of bonds go up. This was the case from 2000 to mid-2003. Of course, nothing is without risk. If stock prices rise year after year, the presence of bonds will result in a lower, though positive, return.
{Return to top}
How do you choose stocks or equity mutual funds for the MPP?
We choose equity investments on the basis of their quality, growth prospects, and how cheaply these two characteristics are valued in the market. We employ strict criteria in our selection process. Also, we examine how closely the investments are related to each other, preferring stocks and mutual funds to be diversified across many sectors to establish portfolio balance. The stock market goes through multi-year cycles when some stock groups outperform others. It is very important to be able to identify these and reflect them in the MPP portfolios.
{Return to top}
Why do stock groups and market cycles matter?
It matters a great deal. Consider the performance of equity mutual funds that emphasized large growth stocks such as Cisco, Intel, and GE. In the seven-year period ending in 1999, large growth stocks outperformed stocks such as Alcoa, Caterpillar, and Citicorp (so called value stocks) by 8 percentage points per year. This was the longest period of out-performance by large growth stocks in 25 years. History suggests that this reverses as value stocks begin to shine. In fact, from 2000 to 2005, value stocks outperformed growth stocks by 11 percentage points a year. These are very large return differences, and the MPP portfolios reflect this shift back to value type stocks.
{Return to top}
What are the differences between the MPP Portfolios?
The portfolios have been constructed with different risk/return profiles. The Savers Income Portfolio is the most conservative with 100% of its assets allocated between money market and government and corporate bond mutual funds. The Equity Growth Portfolio is the most aggressive with 95% target in equity mutual funds. In between, there is the Income Portfolio targeted at 25% in equity mutual funds, the Savers Investment Portfolio, the Balanced Portfolio, and the Growth Portfolio with equity mutual funds targets 50%, 55% and 70% respectively. These portfolios have been constructed to help clients choose a risk/return mix that fits their objectives.
{Return to top}
On what do you base expected returns?
Unlike many investment managers, we do not merely rely on the last 5,10, or even 20 years of actual returns to estimate what the MPP portfolios are likely to return in the future. We recognize that the 1980 – 2000 period marked the greatest sustained bull market in stocks on record. So, history suggests more modest returns are likely as equity values return closer to their long-term averages. This process began with a vengeance in the early months of 2000. But, this is a normal corrective market process, washing out some of the excesses of the prior boom. The result is likely to be several years when annualized returns will be in the low single digits. In fact, from 2000-2005, the S&P 500 Stock Index experienced a 1.1% annual rate of decline. The MPP portfolios reflect the likelihood that bond and stock returns will be more similar to one another than in the past. From 2000-2005, bonds gained an average of 6.8% per year. This is why, except for the Equity Growth Portfolio, bonds have an important role in our portfolios. Our portfolios are constructed to seek equity-like returns with bond market risk.
{Return to top}
