The One-Minute Portfolio annual report: Larry MacDonald

The simplest investment strategy works

Larry MacDonald 0
(Photo: Carl Pendle/Getty)

(Photo: Carl Pendle/Getty)

It’s time for the annual report on the One-Minute Portfolio (OMP), the 11th since it was launched in early 2003 on the old MoneySense.ca website and transferred in 2007 to CanadianBusiness.com. Consisting of just two exchange-traded funds (ETFs), one tracking stocks and the other tracking bonds, the portfolio requires little time or effort.

About the only thing OMP investors have to do is to rebalance once a year to ensure the portfolio’s risk level remains consistent with their risk preferences. For example, if the rebalancing rule specifies 50% of the portfolio should be in stocks and a bull market pushes the proportion up to 70%, the investor should return stocks to 50%

Performance update

In 2013, the OMP gained 8.6% on a total-return basis. As a result, the average annual gain in the OMP since inception remains close to 9%.

The equity ETF, the iShares S&P/TSX 60 Index Fund (XIU), was up 13% in the year and contributed the most to OMP’s annual performance thanks to its 70% allocation. The bond ETF, the iShares Canadian Bond Index Fund (XBB), declined 1.5% and had a lesser impact due to its 30% allocation.

Rebalancing update

For 2014, the 70% allocation to XIU and 30% allocation to XBB are retained. This decision is based on the OMP’s rebalancing rule.

The rule follows the approach used by Benjamin Graham in his book The Intelligent Investor, whereby the allocation to equities is reduced after the stock market has run up a lot, and increased after the market has gone down a lot. This results in “buying low and selling high” to a greater extent than the rule of rebalancing back to a fixed asset allocation.

Specifically, if the average annual return for XIU over the three latest years exceeds the long-term average annual return on stocks, the allocation to XIU is decreased; if the average annual return for XIU over the three most recent years trails the historical average, the allocation is increased.

Since XIU’s average annual return over the three most recent years remains under the historical average for stocks, the 70% allocation is retained in 2014 (and as a consequence, the 30% allocation to bonds).

Note 1: Similarities to a balanced fund

The OMP is similar to a balanced mutual fund. It smooths out the fluctuations in investment returns and allows investors stay invested without too much stress. In 2008, for example, the Canadian stock market plunged 35%; by contrast, the OMP was down only 9%.

Yet, the OMP is better than a balanced mutual fund since it has a much lower management expense ratio. The savings amount to about 2% a year, which adds considerably to performance over the long run. 

Note 2: Rebalancing performance

So far, the rebalancing rule has worked out well. Because of the vigorous rebound in the stock market from 2003 to 2007, the weight assigned to XIU was adjusted downward in stages from 70% to 40—in time for the 2008 crash. By 2011, it had been raised to 70%, where it has since stayed (the recovery from the 2008 bear market has been more protracted than the one from the 2002 bear market).

Note 3: Why no foreign diversification

The chief reason the OMP has no foreign diversification is that long-run returns on Canadian stocks are better than the global average, and nearly as good as returns on U.S. stocks (best performing country over the past two centuries). There may be times when Canadian stocks notably lag global and U.S. markets, but they should be transitory given the correlations in stock markets over the long term.

From this perspective, foreign diversificationunnecessarily increases complexity and execution burden (particularly for a person who intends to retire in Canada). Even less desirable is if the additional complexity and time requirement leads investors to hire financial advisers and increase their costs. The OMP’s goal is to keep things simple enough so investors can easily run their own portfolios.

Larry MacDonald is a former economist who manages his own portfolio and writes on investment topics. He is the author of several business books and tweets at @Larry_MacDonald

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