by Archie M. Richards, Jr., CFP^®
June 30, 2003

This column presents a superior investment portfolio. Its appreciation potential is high and its risk relatively low.

The method is called asset allocation. Funds are allocated to different types of investments whose up-and-down movements don't necessarily match. As the value of one is falling, the value of another may be rising. The fluctuations of the entire portfolio are thereby reduced.

I recommend Vanguard index funds. In each case, diversification is broad, and operating costs are low.

U.S. Stocks: I suggest 30 percent in U.S. stocks, as follows:

Large companies priced high (large growth stocks)	10%
Large companies priced low (large value)	10%
Small companies priced high (small growth)	5%
Small companies priced low (small value)	5%

If small stocks matched their proportionate share of actual U.S. market values, they would occupy only 3.3 share of the portfolio. But in the long run, small U.S. stocks outperform the biggies. I therefore raise the small stocks to 10 percent, reducing the large stocks accordingly.

Foreign Stocks: Put 30 percent in foreign stocks. For the 15 years prior to 1994, foreign stocks beat U.S. stocks every year. To suppose they will never do so again is preposterous. The more diversification, the better.

Vanguard offers mutual funds for Europe, the Pacific, and Emerging Markets. I allocate the 30-percent foreign portion 18 percent to Europe, 7 percent to the Pacific, and 5 percent to Emerging Markets.

Emerging markets include China, India, Russia, Chili, and many others. The value of the stocks of these nations would occupy only 2.7 percent of the portfolio if they matched their share of actual world values. But the prospects for emerging markets seem especially promising. I therefore increase their portion to 5 percent, reducing Europe and the Pacific accordingly.

Non-Stock Investments: Place 20 percent into a fund that tracks an index of real estate investment trusts (REITs) and the final 20 percent into a fund that tracks an index of long-term bonds.

Here's the portfolio. The column of "Permissible 30% Ranges" is explained below:

Initial		Permissible
Percentages	Vanguard Funds	30 Percent Ranges
10%	Growth Index Fund - large growth	7 to 13%
10%	Value Index Fund - large value	7 to 13%
5%	Small Cap Growth Index - small growth	3.5 to 6.5%
5%	Small Cap Value Index - small value	3.5 to 6.5%
18%	Europe Index Fund	12.6 to 23.4%
7%	Pacific Index Fund	4.9 to 9.1%
5%	Emerging Markets Index Fund	3.5 to 6.5%
20%	REIT Index Fund	14 to 26%
20%	Long-Term Bond Index Fund	14 to 26%
100%

To make regular contributions to the portfolio, arrange for automatic investments. Vanguard obtains the amounts you request directly from your bank account. Allocate to each of the nine funds according to the initial percentages shown in the left-hand column above. (Vanguard requires additional investments to be $50 minimum. If your monthly investments are small, you may be unable to allocate to all nine funds.)

Each mutual fund should be set up to reinvest dividends. If you want to withdraw money regularly from the funds, reinvest the dividends anyway and request dollar-amount withdrawals from each fund proportionate to the initial percentages.

Rebalancing: Review the portfolio every thirteen months. (Waiting more than a year avoids higher-taxed short-term gains.) If the percentage of an investment has changed by more than 30 percent from the original, return it to the original.

For example, the U.S. Growth Index Fund is originally set at 10 percent. If the value thirteen months after purchase exceeds 13 percent of the whole (10% increased by 30%), sell enough to bring it back to 10 percent, adding the proceeds to weaker funds. If the Growth Fund's value is less than 7 percent of the whole (10% reduced by 30%), sell investments that have done well and return that fund to 10 percent. If the values of all of the funds have fluctuated by less than 30 percent, change nothing. The permissible ranges are shown in the right-hand column above. Rebalancing forces the investor to sell high and buy low.

I recommend this program highly. It will give superior results with relatively low volatility.