Is Your Portfolio in Need of a Makeover?
I was reading through an old news article online the other day and found an interesting study from the Yale School of Management that really caught my attention. It turns out my home state of Connecticut was ranked the second worst in terms of pension fund performance.
This was based on returns up until June 2022. The study, which was independent, highlighted how some of the state's investment decisions have led to poor returns, and I thought this might be a good learning moment for anyone managing their own portfolio. Many of you may have experienced similar disappointments in your investment returns, and it’s important to understand how to avoid the same pitfalls that led to Connecticut’s pension fund struggles.
The State of Connecticut’s Struggles: What Went Wrong?
According to the Yale study, Connecticut’s pension funds have not been performing well. The worst performer? North Carolina. Interestingly, both Connecticut and North Carolina have a fiduciary mandate, meaning the responsibility of managing the pension funds falls on a single elected official—Connecticut’s Treasurer, for example.
This setup puts a lot of responsibility in the hands of one person, and it may be worth questioning whether this structure is really the best model. It’s clear that the state of Connecticut is looking for ways to improve, but what lessons can we learn from their mistakes?
Asset Allocation: The Foundation of Your Portfolio
The first mistake Connecticut made was around asset allocation, and this is something that you may want to look at in your own portfolio. Asset allocation refers to how you diversify your investments across different asset classes—stocks, bonds, cash, real estate, and commodities. If you’ve listened to my past episodes, you know I’ve talked about this before. But it's so important!
So, what’s an asset class? Simply put, it’s a group of investments that share similar characteristics. The five main asset classes that most people are familiar with are:
Stocks
Bonds
Cash
Real Estate
Commodities
But, there’s also a sixth asset class—private equity—which can offer great returns if you’re able to get into it. But private equity tends to have high minimum investment amounts and isn’t always accessible to individual investors.
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How Much Risk is in Your Portfolio?
If you’re like many investors, you may be invested in only one or two asset classes. A well-diversified portfolio spreads your risk and gives you exposure to different areas of the market. But knowing how to balance the risky versus conservative parts of your portfolio is key to maximizing returns while avoiding unnecessary risk.
Riskier asset classes include stocks, real estate, and commodities. These are where you have the potential to see the highest returns, but also the most volatility. On the other hand, bonds and cash are the more conservative options, giving you a steadier performance but with lower returns.
If you’re closer to retirement, you don’t want to have all your money invested in risky assets—especially if there’s a major market correction.
I’ve seen many investors who don’t even know what their current asset allocation is! And without knowing this, it’s tough to know whether your portfolio is too aggressive or too conservative. Knowing your allocation is the first step in taking control of your investments. Check your 401k, investment accounts, or ask your advisor for a breakdown.
Diversification: Don’t Put All Your Eggs in One Basket
Another mistake Connecticut made is a lack of diversification. Diversification is crucial to managing risk, and it’s one area where Connecticut fell short. They had a lot of exposure to underperforming emerging markets stocks and underwhelming money managers, which led to poor returns.
Now, you might be heavily invested in a few stocks, bonds, or investment types. But if you want to avoid the Connecticut pension fund's fate, you need to diversify. If you’re invested only in large-cap stocks, for example, consider adding mid-cap, small-cap, and international stocks to the mix. This way, you’re not at the mercy of one market segment.
For someone approaching retirement, you want to be sure to spread your investments across various sectors and global markets to protect yourself from major losses in any one area.
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The Importance of Investment Managers
Another factor contributing to Connecticut’s poor performance was underperforming investment managers. When you’re working with investment funds, it’s essential to monitor how they compare to the broader market. The S&P 500, for instance, is a benchmark for large-cap stocks. If your funds aren’t doing better than the market, it’s a sign that your managers may not be doing a great job.
Many investors don’t realize that actively managed funds, where managers attempt to “beat the market,” often fail to deliver the kind of returns you might expect. In fact, studies show that actively managed funds tend to underperform low-cost index funds over time. So, it’s worth considering whether you’re paying more in fees for mediocre returns.
Switching to low-cost, well-diversified index funds is often the best option. Plus, you’ll avoid the hefty fees that come with actively managed funds. The lower fees could make a significant difference in your portfolio’s long-term performance.
Taking Control: A Portfolio Makeover
Just like the shows where experts come in and give your home a makeover, you can do the same with your portfolio. It’s time to clean house and rebuild it into something that works better for your retirement. You can move toward an index-based strategy, diversify more, and even add individual bonds or CDs for more stability.
If you’ve been invested in high-cost, poorly performing funds, now’s the time to evaluate your options. Take control of your financial future by understanding your asset allocation, diversifying wisely, and ensuring your managers are earning their keep.
Closing Thoughts
If Connecticut had a better approach to managing their pension funds, they might not be facing such poor returns. But we don’t have to make the same mistakes. By learning from their errors, we can all ensure that our portfolios are better positioned for growth, stability, and success in the future.
Check out this week’s episode on: Key SECURE Act Insights on Avoiding 25 Percent Penalties on Inherited IRAs
If you have a question or topic that you’d like to have considered for a future episode/blog post, you can request it by going to www.retirewithryan.com and clicking on ask a question.
As always, have a great day, a better week, and I look forward to talking with you on the next blog post, podcast, YouTube video, or wherever we have the pleasure of connecting!
Written by Ryan Morrissey
Founder & CEO of Morrissey Wealth Management
Host of the Retire with Ryan Podcast