Tim Maurer is the Director of Personal Finance for The BAM Alliance, a group of Wealth Management firms that we belong to. Tim wrote an article for Forbes last month about “Tracking Error” which is a phenomenon in which one asset class (or index) performs much better over a period of time than most others. If one holds the single, out performing asset class, they win. If one holds a globally diversified portfolio of, say, a dozen indices, then the one index that out performed stands out above the rest as the winner.
The emotional response is that the rest of the funds were losers or that the diversified portfolio under performed the market when, in fact, the portfolio has done exactly what it was designed to do – provide the investor with market returns according to their acceptable level of risk as outlined in the Investment Policy Statement that the investor and their advisor so carefully put together.
When one asset class in a portfolio out performs the others, the disciplined investor may take the opportunity to rebalance their portfolio; sell high and buy low so the original plan and desired allocation is adhered to. Rebalancing is a wonderful tool that can enable an individual investor to realize higher returns in their portfolio than that same portfolio if it were in a vacuum.
I hope you enjoy Tim’s article and, as a disciplined investor, that you also stick with your plan rather than let your emotions take over and affect your investment decision-making.