Key Takeaways From Portfolio Makeover Week 2020

Susan Dziubinski: Hi, I'm Susan Dziubinski with Morningstar. It's portfolio makeover week. Here with me today to talk about some of the key takeaways from this year's batch of makeovers is Christine Benz. Christine is Morningstar's director of personal finance.

Hi, Christine. Thanks for being here.

Christine Benz: Susan, it's great to be here. Thank you.

Dziubinski: Now, you've been doing these makeovers for several years, and there's always that one cohort that's looking for a second opinion. Who are these people?

Benz: They are people who are getting close to retirement. So, we ask our users when they submit their portfolios for a makeover, they submit their preliminary information, we ask them to tell us a little bit about themselves: their age, and their portfolio value, what their main issues are. And we see a huge convergence in this area of people who are between the ages of 60 and 70 and really wrestling with this idea of whether they have what it takes to retire and certainly, since we have had a strong market environment, more of those investors at that age, in that general age-band, are looking closely at their portfolios and trying to determine whether they are viable. So, we have a lot of people looking for that second opinion as retirement draws close.

And the takeaway for me for that, Susan, is this is a complicated business. I've always been such an evangelist that there are a lot of aspects of investment planning and financial planning that individuals can figure out on their own. The more I've focused on retirement planning, the more I've come to believe that most people should get another set of eyes on their plans before embarking on retirement. So, if I didn't select your portfolio for a makeover, I would say get that second opinion by seeking out some financial help from a financial planner or advisor.

Dziubinski: Now, you made over five portfolios this year, and as you were looking through them, were there any commonalities when it came to the asset mix, asset allocation?

Benz: There were. One of the biggies is that, as you might expect, since we have had this great recovery in stocks in 2020, and it's been part of a long-running rally in the equity market, many people had very high equity weightings. And so, that was one of the things I addressed in some of the makeovers, especially for people who are very close to retirement, because we want to limit their sequence-of-return risk. We don't want them to have their whole financial wherewithal at stake in the stock market. They need to have more in safe investments.

Now, that's a tough sell today, largely because the yields on those safe investments are really, really low where maybe you're not even breaking even once inflation is factored in. But I still think that most people, especially those who are getting close to retirement, should have an allocation to safe investments to protect them against potential equity market volatility.

Another thing I saw, Susan, in addition to the just overall equity overweight, was an underweight in foreign stocks. And to me that is something that investors of all ages should be taking a look at, especially because when we look at market forecasts from various firms, whether our internal researchers at Morningstar or external firms, most of them are calling for better returns from foreign stocks over the next decade than has been the case over the past decade. And that's largely because valuations appear to be more attractive overseas than in the U.S. So, in addition to taking a look at baseline asset allocation, I also drilled into subasset allocation and found that many portfolios were quite lacking with respect to their foreign-stock exposure.

Dziubinski: A common theme that seems to recur during the makeovers is that people are looking for ways to take out, remove some of the complexity that they have in their portfolios that has just happened over time. What are some rules of thumb or things that investors could be thinking about when it comes to, "Geez, how can I make things a little bit more simpler?"

Benz: Well, certainly, all-in-one building blocks are a great idea. That's one of the reasons why my portfolio makeovers often feature index funds at the end of the day because it's a way to obtain a lot of diversification without a lot of monkeying around with individual holdings. One other thing I typically do when I'm looking at a portfolio for someone who is close to or embarking on retirement is that I take some of the individual stocks out of the portfolio simply because even though some individual investors love their individual stocks, it just introduces complexity, it introduces more oversight obligations, and just increases the number of moving parts in the portfolio.

So, one of the portfolios I featured this year was the portfolio of a very avid do-it-yourself investor who loved individual stock investing. So, I took the individual equity portfolio down to just about 10% of the total portfolio. That was a little higher than my comfort level, but I wanted to try to find a happy medium where she could continue to be an engaged investor and engage in a hobby that she loves while also reducing some of that idiosyncratic risk from the portfolio. So, those are a couple of things.

And then, another thing that I sometimes do with the portfolios is if we have a very small account--so, say, you have a spouse who has a small Roth IRA who hasn't been the main earner, so it's not a big account--might just use a target-date fund there to provide all-in-one diversification and just kind of a hands-off complexion to that portion of the portfolio. So, those are some of the things that I think about.

Dziubinski: Now, you comb through many submissions to get to the five candidates for the makeover. As you were going through those submissions, were there any trends that sort of jumped out at you?

Benz: A couple of really positive ones, I would say, Susan. One is that I continue to see a greater embrace of index funds. I think investors have really gotten the message about the importance of low costs as part of their portfolio plans and as something they can control. So, I see more and more index funds in portfolios, which I think is encouraging. And then, I have to say in this pandemic time where our lives have been turned upside down in so many important ways, I just found it inspiring to read through these submissions and see people are long-term-focused. They're looking to the future, trying to make their futures better. And I found that theme woven through a number of my conversations with the individuals who submitted their portfolios. So, that was just kind of a feel-good thing with this year's set of portfolio makeovers, just to see that even though these are really challenging times, people are focusing on the future and focusing on better days ahead.

Dziubinski: Well, Christine, thank you very much for your time today. And on a personal note, I'd really like to thank you for doing these portfolio makeovers. They are a lot of work. And I love seeing our readers and our users in these real-life situations. But then, from that we can all learn something that we can apply to our own situations and portfolios. So, really, thank you so much for doing these.

Benz: Thank you, Susan. It's always a great learning experience for me and just also really fun for me to get to interact with investors in a one-on-one way, in a way that I can't necessarily do in my day job usually. So, it's a fun exercise.

Dziubinski: Great. Thanks again, Christine. I'm Susan Dziubinski from Morningstar. Thanks for tuning in.