Planning Your Financial Road Trip

Posted By: Advisor Analyzer Team

Millions of Americans have cars, thus implying there are millions of cars in America. It’s a transitive argument, philosophy 101. We drive different cars to our individual destinations, at varying speeds and styles. Anyone stuck in rush hour traffic can tell you cars and their drivers come in all shapes and sizes. Differences in automotive budget to one’s preference of model and color are implicitly communicated every time the gas pedal is depressed.

 

The variety of vehicles barreling down freeways and drive thru windows is so diverse, the mere sighting of an identical automotive twin can create an unspoken fraternal connection between its owners. With just a glance, each has walked in the other’s shoes. They’ve shared joys and hardships of which no other driver in a 5 mile radius truly understands. That is unless you own a silver Japanese family sedan, of course.

 

However, the differences don’t stop at our vehicular preferences. It often extends to reasons of purchase, one’s maintenance habits, personal driving style and destination as well. Some owners wash their cars out of a guilty conscience, while others religiously use enough spray and wax to make Cobra Kai nervous. Some drive to their destinations in a safe and predictable manner, others navigate from A to B as if riddled with dyslexia.

 

So how does all this car talk relate to your investment portfolio? At first glance, it appears I’m comparing apples to orange golf balls. Your portfolio doesn’t have wheels, can’t play your favorite song, and doesn’t have a pine tree shaped air freshener dangling from it. (Well maybe that last one can be chalked up to the similarities column). However, upon further inspection you may realize your portfolio and automobile have more in common besides putting a little money in Rick Wagoner’s pocket.   

The Destination

Like your car, your portfolio is a vehicle that is used to help you reach a desired future destination. We’ve all imagined our lives at the end of that financial road trip; a nice home, couple sports cars or boats, membership to a private golf course, a true cart blanche lifestyle. As with every road trip, the first and most important step of portfolio construction is to determine the final destination; where should your portfolio be in the future to achieve your financial goals? If you don’t know your portfolio’s destination, you’re headed nowhere.

 

However, we must be realistic as to the distance of our desired destination. Although we’d like to celebrate our journey’s end drinking frozen margaritas with tiny umbrellas at a Hawaiian resort, it may be an impossible trip for someone with a New York license and a car that stalls in the rain. Testing a car’s buoyancy not only increases the risk of never wearing a necklace of flowers but also losing your car to the bottom of the pacific. One must carefully assess the capabilities of their automobile and its likelihood to safely transport you to your destination. Similarly, when determining your desired portfolio value, it’s recommended the figure be realistically achievable. Expecting to retire with a multimillion dollar portfolio with only a couple thousand dollars will more times than not, leave you more disappointed than going on a blind date with Gary Busey.  

 

Determining the distance and destination of one’s trip should be coupled with assessing the time one has available for travel. Can you afford a leisurely trip singing merrily about boat rowing or will you be driving like a caffeine injected bat out of hell with no sleep? While driving from New York to California may be an achievable distance by car, doing so in under24 hours can prove dangerous and unrealistic. The destination chosen should be one that can be safely reached within the time allotted for travel. When investing, make sure the target values can be realistically attainable within your investment horizon. Much like aggressive driving increases the risk of an accident, aggressive investing often exposes your investments to wild fluctuations and erratic price swings. No one can sustain traveling at speeds of 150 MPH from New York to California, and similarly no one can sustain triple digit returns annually from their portfolio.   

The Vehicle

So now that we’ve decided on a (realistic) destination, and determined how long we have to get there, we must evaluate the car itself. Will you be driving an Italian sports coupe capable of mind numbing speeds or a station wagon with a top speed less than Heidi Klum’s waistline? When choosing an allocation, you are implicitly determining the characteristics of your investment portfolio.

 

Your portfolio may be more like a Ferrari; fast and aggressive, with a major portion of your holdings invested in growth oriented equity. Much like driving a fine tuned Italian automobile, a portfolio geared towards growth requires frequent monitoring and constant reevaluation. The investor must be proactive and engaged in every step of the process, nimbly anticipating the market’s twists and turns. They should be familiar with every inch of their vehicle and understand how it will perform under any given condition. To the drivers of these vehicles, cruise control means never letting their foot off the accelerator. While an aggressive portfolio may be ideal for a risk seeking market enthusiast who keeps track of earnings and SEC filings, this type of allocation is not recommended for the faint of heart. Put bluntly, would you be more comfortable letting your mother drive a Ferrari cross country or a Volvo?

 

However, our roads are flooded with sedans and SUV’s. These vehicles are designed to get us to our destination in a safe and predictable manner. They offer creature comforts like heated seats and cup holders that were somehow overlooked by Italian engineers. They are designed for drivers who’d rather follow the flow of traffic most of the time, but occasionally pass on the left when the urge strikes. These drivers would undoubtedly invest in large capitalization dividend paying stocks: companies that have been around for ages, and will likely be around for ages to come. These stocks have earnings and price fluctuations that are more conservative and predictable than those of high growth, but still offer respectable appreciation from time to time. Far from reckless, these investors would gladly give up 50 extra horses for a well functioning cruise control button.

 

On the other end of the spectrum, are very conservative drivers of minivans and station wagons. These drivers care more about the precious cargo inside their vehicles than the occasional stares from passing drivers. They literally limit their top speeds to the posted speed limit. Investors who are concerned preservation of wealth and do not want to worry about massive fluctuations generally invest in fixed income instruments such as bonds. These investments generally provide the most consistent cash flows but do not offer the same appreciation potential as equities. They’re geared towards the more risk averse; investors whose idea of a pleasant surprise is having no surprise at all.

Conclusion

When determining your asset allocation, it is important to understand where the portfolio is intended to take you. Once an investor has established his objectives and constraints, he can begin to assess different investment vehicles that are capable of safely bring him to his destination. Simply buying and selling stocks and bonds in hopes to grow your portfolio, is as prudent as driving aimlessly around the country without a map. Some may find intrinsic joy from such behavior, but in the world of investments, it may end up costing you more than a few bucks on gas.