The Strangest Investment Strategy Ever Created

By Thomas Mulloolly

"Asset rebalancing" may be the strangest investment strategy ever created and unfortunately, this a strategy we are seeing more frequently in 401k plans, 403b annuities, as well as in section 457 deferred compensation plans that we advise on for our clients. Don't use it!

"Asset rebalancing" means setting your portfolio parameters…say you plan to have 15% each of your portfolio in certain areas…healthcare, 15% in technology, 15% in consumer goods, 15% in financial stocks like banks and insurance companies. Or you could have 20% in large cap stocks, 20% in small cap stocks, 20% international…you get the picture.

Now, according to the asset re-balancing program, every quarter, you re-examine these parameters. If, for example, the technology portion of your allocation has grown significantly and now represents say 22% of your portfolio, instead of the original 15%, the computerized program would sell enough to get that portion back in line, and also move money into the other sectors which have not kept up, to balance everything again.

The concept is to get investors to take gains off the table (a good idea, in theory) and also re-allocate it to the sectors that are not working. "The pitch" with asset rebalancing is that you would essentially be selling a group when things get high and putting money in other sectors when they are low.

It is totally acceptable to take "some" money off the table when things work really well. My clients know our game plan for taking money off the table before we even begin. But putting money into areas of the market that are not working? Hmm. A few questions pop into my mind:

1. Why are you investing in an area of the market that is not working to begin with?

2. Why would you put more money into it?
There is an easier way to keep your assets in the right areas of the markets, without re-balancing your assets every quarter. And it has been at our disposal for over 50 years, but very few people use it.
In the 1940's, Earnest Staby (an early point and figure chart pioneer) came to the conclusion that when the markets were frothy, it seemed that every chart he examined looked great. And when the markets were low, all the charts looked abysmal. Staby wanted some indicator that would tell him when the risk in the market was high and also when the risk was low.
What Staby came up with was the concept of the "bullish percent indicator." The bullish percent indicator is merely the PERCENTAGE of stocks in a group that are on point & figure buy signals.
When the bullish percent for a group of stocks is high, that means most of the stocks in that group are already on buy signals. There are only a few stocks left in the group that could generate new buy signals…only a few names left that could continue propelling that group higher.
Another way of explaining a very high bullish percent reading for a group of stocks is that all the money that is going into that group of stocks…is probably already in it.
And when you see the percentage of stocks on buy signals in that group falling, the risk is that supply (not demand) is in control. Then the risk becomes greater for a loss of principal.
Using the bullish percent indicator can tell us when a group of stocks moves in favor and when a group falls out of favor. In the year 2000, the bullish percent charts were telling us to avoid large cap stocks and also to move into small cap stocks. These indicators can also tell us what sectors of the market remain low risk and other sectors that are now becoming higher risk. That should be pretty useful information!

Using the bullish percent indicator will tell us what sectors to STAY in and what to get OUT of…instead of letting a computer automatically "rebalance" our assets every quarter! This way we permit ourselves to stay in a sector that continues to run higher.

Here is a good example: throughout this year 2005, as oil has tracked higher & higher, a computerized asset rebalancing program would have been taking progressively more & more OFF the table, instead of sticking with a winning sector!


About the author:
Thomas P. Mullooly, President of Mullooly Asset Management, LLC (www.mullooly.net) has spent over twenty years in the investment industry, as a broker and as an investment advisor. Mullooly Asset Management is a fee-only registered investment advisory firm based in New Jersey, specializing in retirement plan accounts, particularly managing 401k, 403b, and deferred compensation accounts for individuals. If you would like to know which sectors your portfolio should be avoiding right now, contact us by sending an email to tom@mullooly.net, call 732-223-9000 or by visiting http://www.mullooly.net/403b-plan.htmlor sign up to receive the market report and tips on how you can soundly invest your money at www.mullooly.net.


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