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Alan Haft

Help Clients Buy Low and Sell High

Here’s how.

March 19, 2012
by Alan Haft

You’re walking down a white sandy beach with a friend and find a buried lamp that appears to be from Persia. Joking around, you rub it and amazingly, a genie appears overhead. Peering down, the genie offers you three wishes for your money.

What comes to mind?

If you’re like me, the first wish might very well be “more of it,” but after that, what else would you wish for?

When presenting at events or talking to clients, I get all sorts of answers such as:

  • Never lose it,
  • Never pay taxes on it, and
  • Buy low and sell high.

For your client-investors, the first two would most definitely require an actual genie to grant such wishes but to buy low and sell high, forget the genie. Just follow these two easy steps.

Step 1: Forget Your Mind

Have you read Eckhart Tolle’s The Power of Now? Like many philosophers before him, Tolle basically tells us to forget the mind.

When thinking about what’s soon to come, your client’s mind usually plays tricks and says things like, “why would I do this when my investments are doing so well?” Or, conversely, “Invest in real estate? Are you crazy?!”

Sad but true, chances are your mind will get in the way, and the less one listens to it, the more likely this easy system will work.

Step 2: Rebalance

Rebalancing a portfolio simply means maintaining the originally allocated percentages or returning to the percentages used when the portfolio was initially created. This, of course, assumes the initial portfolio was properly set up according to your client’s personal needs.

Failing to rebalance a properly allocated portfolio is like forgetting to cook a pizza you just took out of the freezer. Without this critical step, the thing is “half baked.”

Here’s why. Suppose we turn the clock back to the ’90s. For sheer simplicity, suppose I used prudent financial planning and diversified my investments into six common market sectors by investing in an index exchange traded fund (ETF) representing each, dividing my money as follows:

  • U.S. stocks: 15%
  • International stocks: 15%
  • Technology: 15%
  • Real estate: 15%
  • Bonds: 20%
  • Other: 20%

Over the course of a year, given the gains and losses of various sectors, suppose the percentages at the end of the year wound up looking something like this:

  • U.S. stocks: 25%
  • International stocks: 10%
  • Technology: 25%
  • Real Estate: 10%
  • Bonds: 10%
  • Other: 20%

True, I might be diversified but do I end the process there? Not if I want to give myself the best possible chances to buy low and sell high.

If I just held my portfolio without rebalancing it, as technology dragged the market into a crash, I would lose the principal and/or the gains I made within the U.S. stocks and technology sectors.

But if I remembered to rebalance, I would have first checked my mind at the door and then done the job. To rebalance at the end of 2000, I would have automatically sold the profits in technology and U.S. stock sectors to return them back to their original starting percentages.

And what would have I done with the profits? I would have first reminded myself that every sector in a portfolio has its good and bad days and that we can’t be sure when those cycles will take place.

With that important thought in mind and some courage to boot, at the end of 2000, I would have used profits from the technology and U.S. stock sectors to refill those sectors that were down in value. In the above example, I would have added profits from technology and U.S. stock sectors into the real estate and international sectors. Selling profits and using them in those sectors that were down in value would have restored my portfolio back to its starting percentages.

And in doing so, what have I accomplished? Into 2001, I would have accomplished what every investor dreams of: I would have automatically sold high and bought low.

In my example, after the rebalance at year-end 2000 was complete, the technology and U.S. stocks sectors eventually would have crashed and burned, the markets would have settled down and then as the market crash of 2001 settled down, stocks within lackluster sectors such as real estate and international would have taken off, earning highly impressive rates of return.

And thanks to forgetting the mind, I would have reaped great rewards because I not only held those lackluster sectors, but also added money into them when they were at their lows.

How Often?

Ideally, absent major market disasters or intra-year surges within a sector, I recommend portfolio rebalancing at least once a year, typically right after January 1. The reason for waiting just over a year comes down to one thing: minimizing taxes. Assuming some sectors went up in value, when your client sells profits after holding the stocks for just after a year, long-term capital gains will be incurred rather than the more costly short-term type.

Sound Easy?

It is, but what makes rebalancing difficult for most people is either finding the 15 minutes of discipline to do this once a year or, as importantly, avoiding the belief that your client’s mind or anyone else’s is smarter than the market.

The ‘Other’ Sector

You might have noticed a line item in the portfolio above labeled “Other.” This is the only sector within a portfolio where your client’s mind should be allowed to actually think. After-all, we’re only human, right? And from time to time, many of us have hunches and companies in which we’d like to invest. Think of it as the “sandbox” sector where the kid in us gets to play.

Gold? Apple? Emerging markets? Whatever. It’s the sector in which your client’s mind should be allowed to make predictions and not necessarily have to abide by the above rules.

Conclusion

Does diversification and rebalancing work all the time? Does it ensure “buying low and selling high”?

Genies aside, no way. All your client has to do is turn back the clock to somewhere around 2008 to realize it most certainly doesn’t work all the time. But given few people have any system or strategy in place, evidenced by many market cycles of the past and endless more to come, this is one simple strategy I believe gives us all a fighting chance.

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Alan Haft is an investment advisor representative with an insurance license, author of three books including the national bestseller, You Can Never Be Too Rich, and makes frequent appearances in national print, television and radio media such as The Wall Street Journal, Money Magazine, CNBC, BusinessWeek and many others. The amounts represented in this article should all be considered hypothetical and for example only.

Disclosure: This article is not intended to provide tax or legal advice and should not be relied upon as such. Any specific tax or legal questions concerning the matters described in this article should be discussed with your tax or legal advisor.

For full disclosure, Haft is a part of a firm that utilizes all industries which typically includes us receiving percentage based fees for brokerage services as well as commissions when implementing insurance based plans. Haft does not work for any particular financial company or industry nor should this column be construed as an endorsement or condemnation for any particular product. Readers should note that all views and vendor recommendations as expressed in this article are solely the author’s and do not necessarily reflect the views of the AICPA CPA Insider™ or the AICPA.