Copyright 2012 Tom Madell, PhD, Publisher
Oct. 2012. Updated Nov. 2, 2012


-Government Officials Are Trying to Influence Your Asset Allocations
-October 2012 Model Portfolios
  -Overall Allocation to Stocks, Bonds, Cash
  -Possible Effects of Fed Quantitative Easing on Your Investment Choices
  -Model Stock Fund Portfolio
  -Model Bond Fund Portfolio
-Pay Attention to Specific Fund Choices, Not Just to Stock/Bond Market Prospects

Government Officials Are Trying to Influence Your Asset Allocations

By Tom Madell

Note: Some subscribers may not be aware that we did publish a Sept. Newsletter. We did not email all our subscribers to announce the vacation-abbreviated edition, which initially contained Steve Shefler's article, but added one of my articles about a week later. We hope that subscribers are aware that we always try to publish a new Newsletter by the beginning of every month; therefore, if uncertain, you should check at our site even if you don't receive notification.

As recently as a few months ago, at the beginning of June, both the S&P 500 Index and the Nasdaq had dropped more than 10% from 2012's previous highs. However, since then, both indexes have come roaring back surpassing those earlier highs, and thus reaffirming the strength of the bull market we have been in since March, 2009.

Unless you are new to our site, you should be aware that I have remained quite positive on the stock market's overall longer term prospects since early in Nov. 2009. Although there have been several 10% or more corrections since then (which all investors should realize can happen in a rather unpredictable fashion), the upward trend for US stock funds has amply rewarded investors who were unwilling to let the apparent scary economic backdrop deter them from the recognition that most stocks had become undervalued.

But now that many stock funds have risen as much as 125% since the March 2009 lows, and perhaps about 15% from the June 1, 2012 low, should investors add to their stock positions, simply do nothing, or perhaps take some off the table? This question becomes even more complicated in light of the Fed's recent statements which are, in part, designed to push investors in riskier asset classes, including stocks.

In our July 2012 Model Portfolio, we recommended what some might consider a high allocation to stocks, 67.5% for typical (Moderate Risk) investors. Once again, right now, all I can do is report what both my interpretation of on-going events and my long-standing research suggest to me: Stocks remain one's best chance of both earning positive, inflation-beating returns, and coming out ahead of alternative investment classes (i.e. bonds or cash). Withdrawing money from stocks in the hopes, perhaps, of returning at some "later" time is a lot less likely to be successful.

Naturally, every investor's circumstances are different. For example, some investors may either be approaching retirement or already in retirement. Within this group, some investors may appraise that, while they are where they currently want to be with regard to their total overall assets, a serious and necessarily long-lasting drop in stocks might put them in jeopardy of not having enough in the years ahead. Such individuals might well feel that the risks associated with stocks might not warrant taking too many chances going forward.

In other words, further gains, while perhaps on the horizon, are not as strong a motivating force as the risk of possible losses. But for those individuals who have many years before actually needing to tap their retirement funds, or who still need to rely on further growth in their portfolios to meet their long-range objectives, significantly reducing one's allocation to stocks at this time would seem to be a mistake.

Regardless of the effects of the Fed's actions on other investors' behavior, one needs to decide for oneself what makes the most sense for you. The following discussion of our new Model Portfolios will try to shed some light on what we think will be the best directions for investors' portfolios over the next year or two.

October 2012 Model Portfolios

Overall Allocation to Stocks, Bonds, Cash

If you tend to follow an asset allocation model for stocks, bonds, and cash, such as we present every quarter, your percentages divvied up to each of these broad asset classes may have changed over the last year even if you took no action at all. This is because whatever you allocated to stocks has likely grown much faster than bonds or cash. For example, if you had 60% in stocks a year ago, 32.5% bonds and the rest in cash as we had recommended at that time, your current allocation to stocks might have risen to as much as 63% today while your allocation to bonds would have gone down several percent as well. (If you held a large position in International stock funds, your returns over the last year would be less, as described in our Sept. Newsletter, and consequently, your current stock allocation would have grown less as well.)

The following tables show where you might want to have your allocations now. As you can see, the only change from our last Model Portfolio is a slight upward adjustment in stock allocation for conservative investors.

For Moderate Risk Investors


Asset Current (Last Qtr.)
Stocks 67.5% (67.5%)
Bonds 27.5 (27.5)
Cash 5 (5)

For Aggressive Risk Investors


Asset Current (Last Qtr.)
Stocks 85% (85%)
Bonds 10 (10)
Cash 5 (5)

For Conservative Investors


Asset Current (Last Qtr.)
Stocks 47.5% (45%)
Bonds 45 (45)
Cash 7.5 (10)

Note: We realize that many conservative investors may recoil at our high recommended allocation to stocks. Obviously, there are many routes investors may elect and only time will tell which allocation will turn to be the most ideal. And, of course, one must take into account one's comfort level, not just potential returns. But investing in stocks will always require a certain "leap of faith."

Possible Effects of Fed Quantitative Easing on Your Investment Choices

On Sept. 13th, the Fed announced it would go further than it ever has to attempt to change the course of the economy which has been stuck in low gear. So the question becomes what effect, if any, might this radically new policy potentially have with regard to creating a fund portfolio designed to deliver decent returns while always being mindful of the risks over at least the next year?

Is it reasonable to expect the new Fed actions, also known as "QE3," to boost stock prices even further, as they did for the two previous versions of QE1 and QE2?

I believe that given that QE3 may go on for years, it is likely that it will serve as a prop under stock prices since low interest rates almost always work as a stimulant to stocks. Not only is there the potential for stimulus, but many investors sitting on the sidelines are more and more realizing that they can't make a decent return in either cash or many types of bonds. Therefore, like it or not, they will essentially feel "forced" to take the plunge into stocks.

Not all types of bonds will necessarily suffer. Any funds that pay a somewhat higher yield should be the main beneficiaries. These include high yield bonds, corporate bonds, and possibly, municipal bonds and emerging market bond funds that have higher yields than government bonds, the latter which include US Treasuries. Investors should emphasize mainly intermediate, as well as some longer-term bonds, rather than short-term bonds whose yields are low and likely going even lower. (Lower bond yields can create capital gains, but such gains should be greater for longer-term bonds.) While we view the bond investor's enemy, inflation, as still quite unlikely for the next several years, inflation-protected bonds (TIPS) are still a better way to go than Treasuries.

Since the Fed is specifically going to be buying mortgage-backed securities, we expect that bond funds including them, including GNMA funds, may do somewhat better than expected too. According to published data, the world's biggest and most successful bond fund over the years, PIMCO Total Return, now has about a 50% position in mortgage-backed securities, suggesting this assumption is likely valid.

As far as the types of stocks, and therefore, the type of stock funds that should profit most from QE3, we compiled a list from several knowledgeable sources and here are those that we see frequently being recommended:

1. Income/dividend producing stocks
2. Natural resource funds, including precious metals, energy, and commodities
3. Real estate funds
4. Emerging market funds
5. Cyclical stocks (i.e. those closely tied to the growth of the economy), including financial and consumer discretionary stocks
6. International Stock funds that profit when the dollar is weak ("unhedged" funds; see "Comments" below)

Note: We do not necessary recommend that most fund investors should own many funds that specialize in such categories because such choices would generally be the province of aggressive investors.

Model Stock Fund Portfolio

Our Specific Stock
Fund Recommendations

Fund Category

 Recommended Weighting
Now (vs Last Qtr.)
 Fidelity Low-Priced Stock (FLPSX) 


15% (15%)

Vanguard Internat. Growth (VWIGX) (M)
 Vanguard Europe (VEURX) or Vang. MSCI Europe ETF (VGK) (A)
 Tweedy Brown Global Value  (TBGVX) (C) 


22.5 (22.5)

 Vanguard 500 Index (VFINX)
 Yacktman (YACKX)

 Large Blend 

17.5 (17.5)

 Vanguard Growth Index (VIGRX) 
Fidelity Contra (FCNTX) 
 Large Growth 
15 (17.5%)

 Vanguard Windsor II (VWNFX)

 Large Value 

15 (12.5)

Vanguard Financials ETF (VFH) (A) 
 Vanguard REIT ETF (VNQ) or Fund (VGSIX) (M) 
Vanguard Consumer Discretionary ETF (VCR) (A)


15 (15)

Note: (M) indicates mainly for Moderate Risk investors; (A) Aggressive Risk; (C) Conservative Risk.


Of all stock fund categories, those with a Large Value orientation appear to have the best prospects going forward. This would also include ETFs in the Financial sector.

If QE3 has the effect of weakening the dollar as many economists expect, this might be a reason to favor a traditional "unhedged" International fund, such as VWIGX, that profits from such a currency effect. If, however, the dollar remains as a relative safe haven for investors in an otherwise tottering world economy, then a "dollar-hedged" international fund, such as TBGVX, will continue to be a better choice. (TBGVX has outperformed 99% of International Stock funds over the last 5 years, but has dropped to the bottom over the last month, given that the weak dollar has currently re-emerged as a result of QE3 expectations.) Given the uncertainty, we would suggest holding both types of funds.

Incidentally, investors seem to have become much more confident that the euro zone is getting a grip on its problems lately with the European Central Bank having recently come out with a bond-buying program of its own. The region remains highly undervalued in our estimation and we would therefore regard it as one of the best BUYs out there for long-term investors.

Model Bond Fund Portfolio

Our Specific Bond
Fund Recommendations

Fund Category

 Recommended Weighting Now
Now (vs Last Qtr.)

PIMCO Total Return Instit (PTTRX) or 
 Harbor Bond Fund (HABDX)
 Vang. Total Bond Mkt. (VBMFX) (C)


35% (32.5%)

 PIMCO Real Return Instit(PRRIX) or 
 Harbor Real Return (HARRX)


15 (15)


 Intermed. Govt. 

5 (7.5)

  Vang. Intermed. Term Tax-Ex. (VWITX) (See Note 2)   Intermed. Term Muni 
12.5 (12.5)

 Vang. Long-Term Inv. Gr. (VWESX) 
Loomis Sayles Retail (LSBRX) (A)

 Long-Term Corporate 
  and/or Multisector

12.5 (12.5)

 Vang High Yield Index (VWEHX) 

 High Yield 

15 (15)

 PIMCO Foreign Bond (Hedged) Adm (PFRAX) 


5 (5)

Note 1: (A) indicates mainly for Aggressive Risk investors; (C) Conservative Risk.
Note 2: Instead, if available, select a muni fund that has your own state's bonds for double-tax exemption.


Many of the above bond funds are having a great 2012 thus far. The exceptions are VBMFX and VFIIX. The problem with these two is simply that their yields are too low to interest investors at this point (about 1.6% and 2.3% respectively, as of this writing.) While these are good funds, we don't expect their returns to improve anytime soon. Of course, VFIIX could get a boost from Fed purchases as noted above, but in this regard, we'd still trust PTTRX to find the best mortgaged-backed opportunities.

Pay Attention to Specific Fund Choices, Not Just to Stock/Bond Market Prospects

The purpose of presenting the data below is to see whether our carefully selected fund choices perform better than average. If so, it would seem to demonstrate that investors should perhaps pay as much attention to fund selection as to such things as focusing on whether or not stocks or bonds in general might appear to be very risky right now, or posed for further gains.

The Model Portfolio we recommended a little more than a year ago, near the start of the 4th quarter of 2011, included 14 stock funds and 9 bond funds. However, for stock funds, certain funds were only recommended for either aggressive or conservative risk investors. And for bond funds investors, as always, we only recommend Harbor funds if you cannot meet the taxable account minimum investment of 25K required for PIMCO "Institutional" funds which are available at certain brokerages such as Vanguard .

The following tables shows the returns for each recommended fund over the last 12 months compared with the return with the average fund, through Sept. 21.

Stock Funds

Stock Fund Model Portfolio (4th Qtr. 2011)

Funds (Fund Symbol) (Risk Level - See Note Below)  

 1 Year Total Return

Fund Category

Return for Average Fund in Category

Vanguard Growth Idx (VIGRX) (C)
American Century Growth Inv (TWCGX) (M)
Fidelity Blue Chip Growth (FBGRX) (A)


Large Growth


Vanguard Internat. Growth (VWIGX) (M)
Vang. FTSE All-World ex-US Small-Cap
Index (VFSVX) (A)
Tweedy Brown Global Value (TBGVX) (C)



International 15.2

Vang. Large-Cap Idx (VLACX)
Gabelli Asset (GABAX) (A)


Large Blend 25.1
Vanguard REIT (VGSIX)


Real Estate


Vang. Equity Income (VEIPX)
Yacktman (YACKX) (A)
Vanguard Financials ETF (VFH) (A)


Large Value 26.3

Vanguard Mid-Cap Growth Index (VMGIX)


Mid-Cap Growth


Vanguard Small Cap Index (NAESX)


Small Cap Blend
Note: (M) indicates mainly for Moderate Risk investors; (A) Aggressive Risk; (C) Conservative Risk.

As can be seen, 11 out of 14 of our choices beat their category averages, in some cases by a significant amount.

Would our overall Stock Portfolio have beaten the S&P 500 which returned a near unbeatable 28.0% for the period? No, but the overall portfolio performance result would depend on which fund/s within a given category one included, as we sometimes recommended more than one.

Note, however, that the typical "Global" fund, which included both International (non-US) and domestic (US) equities, returned 16.9% over the same period, a return almost any combination of selections from our Stock Portfolio would have beaten. Unfortunately, as has been true for quite a while, any portfolio which had a significant International exposure was extremely unlikely to beat the return on US stocks alone.

Bond Funds

Bond Fund Model Portfolio (4th Qtr. 2011)

Funds (Fund Symbol) 

 1 Year Total Return

Fund Category

Return for Average Fund in Category
Vanguard Total Bond Market Idx (VBMFX)
Intermediate-Term Govt

(see Note 1 below)

PIMCO Total Return Instl (PTTRX) or
Harbor Bond Fund (HABDX)



(see Note 2 below)
Vanguard Interm-Term Tax-Exempt (VWITX)


Intermediate Term Muni

PIMCO Real Return Instl (PRRIX) or
Harbor Real Return Instl (HARRX)




Loomis Sayles Bond Retail (LSBRX)


Multisector 10.6

Vanguard High-Yield Corporate (VWEHX)


High Yield


T. Rowe Price International Bond (RPIBX)


Note 1: Return for Average Fund in Category shown is for a similar ETF bond index (AGG)
Note 2: Return for Average Fund in Category shown is for Intermediate Corporate Bonds.

In this comparison, 7 out of 9 of our choices beat their category averages.

Long time readers of this Newsletter should recognize that, likewise, throughout the 13 calendar years we have been publishing our Model Portfolios, our specific fund choices have a long history of recommending funds that have a strong track record of doing better than the average fund they compete against.

This is why we urge fund investors not to focus what seems to be an excessive amount of attention on the prospects for stocks or bonds alone, but on which specific funds to own within a portfolio regardless of whether stocks and/or bonds do well over the next several years.


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Steve Shefler's column will return next month.