Sticking to Your Plan: 5 Strategies

Jason Stipp: I'm Jason Stipp for Morningstar. It's Investor Starter Kit special report week on Morningstar.com, and today we're talking about monitoring your portfolio, and specifically tips to help you stick with your portfolio plan in good times and bad.

Here to offer insights on that is Morningstar's Christine Benz, our director of personal finance.

Thanks for joining me, Christine.

Christine Benz: Jason, great to be here.

Stipp: It can be difficult to stick to a plan, because we know the markets can be quite volatile, but setting certain expectations mentally, and maybe even setting some guardrails, can help you before you get going.

You have five tips on that today and the first one is an interesting one, where you have more tools now to help you, and it's automation.

Benz: That's right. Investors in 401(k) plans have known for years that they can automate their investments, just dribble their money in every other week or whenever they get paid, whatever schedule they choose, and that is increasingly an option for other investment account types as well. Mutual funds, even that you might own in a brokerage account, will let you do this, where you are putting your money in at regular intervals using a fixed sum. That does add a lot of discipline to the investment process, which can tend to lead to good outcomes.

You can also take advantage of automatic rebalancing in 401(k) plans. I'm also seeing this pop up as a feature that's available for people outside of 401(k) plans, so people who have IRAs, for example, with a given fund company. So that's another tool, perhaps, to take advantage of, if you want to try to get yourself out of the decision-making process. If you've reviewed how you've done with decision-making at [market] inflection points, and determined that you're not so good at it, extract yourself from it by taking advantage of some of these tools.

Stipp: Rebalancing in general means you're selling things that have gone up and probably buying things that have gone down, which is a difficult psychological decision to make. You say if this is something that you really want to be truly hands-off with, target-date funds can be a good option for you.

Benz: That's right. Target-date funds are the funds that get more conservative as you get closer to your retirement date or your goal date. They do periodically rebalance back to the target asset allocation. They get more conservative over time, but they're typically selling whatever has been performing really well, and buying what hasn't performed as well. So, back in late 2008, early 2009, even though most investors did not feel like buying equities, if you had a target-date fund or some sort of balanced fund even, the fund was doing it for you. So it helps you override your own worst behavioral instincts. A lot of investors felt like selling stocks at that point. Their balanced or target-date funds were actually stepping up and doing some buying.

Stipp: We have the data, actually, that would seem to suggest this kind of automatic activity does pay off for investors.

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Benz: That's right. I'm very compelled by the data, which show that target-date investors came through the past five years really in better shape than investors on average in almost any other category, and I think that enforced discipline, the fact that target-date investors tend to be kind of "set and forget it," maybe even a little bit lazy, really worked in their favor in this case.

Stipp: Your second tip may be related to the first one in the sense that if you have set up some of these auto contribution and auto rebalance [mechanisms], it allows you to do something else, or to not do something else--specifically you don't have to keep checking your portfolio.

Benz: That's right. They take you out of the equation where you don't have to do those regular checkups. If you're being truly hands-off and investing in some sort of target-date vehicle, it's doing that for you. And what we see is that when investors pay too much attention to their holdings on a regular basis, maybe they're checking in very frequently--and that's maybe been a temptation recently as stocks have gone up--sometimes they are more beholden to the fear/greed cycle at those points.

I think if you don't peek, and if you just do a portfolio checkup, say once or twice a year, you'll be much better off than if you do frequent checkups. You're less inclined to chase performance at times like right now. You're less inclined to capitulate in very bad markets.

Stipp: One way to stay on track mentally is to make sure that you've actually written down your investment plan.

Benz: I'm a big fan of this idea of having an investment policy statement. We've got a template on the site that people can use, but the basic concept here is that you're writing down your general asset allocation, what you're looking for in your holdings, and you're also writing down when you will check up on this plan--so specifically whether you'll check up once a year or once a quarter or whenever it might be--as well as what your triggers will be to sell investments. Having the plan on paper can help you keep from overriding your own investment plan [which can happen] if you just had a plan in your head.

Stipp: One thing that probably isn't on a lot of investors' minds in the last few years, as markets have done really well, is staying conservative. You say if you have a conservative bent baked in, that can also help you stay on track.

Benz: This is another finding from our investor-return data. When we look at the types of funds where investors have tended to have a better experience, where they've tended not to chase performance, not to sell out at the bottom, what we see is a very powerful endorsement of more conservative strategies. Even within all-equity categories, such as large-cap blend, we notice that the more conservatively positioned funds tend to have better outcomes for investors. [Investors] tend to get a bigger piece of the funds' overall total return.

If you shade your overall investments toward the more conservative types that will have maybe more muted fluctuations in their performance, that will tend to keep you on board, and that's a good thing.

Vanguard Dividend Growth, for example, is something that you might own instead of, say, an S&P 500 Index fund. It's very well diversified, but it just tends to be a little bit more conservative, a little bit higher quality.

Stipp: And these funds will tend to have a smoother ride overall. So, with the less ups and downs, there's less potentially freaking out as you are looking at your results.

Benz: Exactly.

Stipp: Lastly, Christine, you say that as you're doing your investment selection, one important key thing to remember is that you really want to set realistic expectations for what these investments might do in different kinds of markets.

Benz: I think that's absolutely right. So do your homework at the outset, make sure you really understand what you're getting. If you have had some sort of investment that has had pretty muted returns during this recent rally, if you really understand it, you may know that in fact that's what you would've expected it to do.

So maybe it's a fund with a conservative strategy, for example, where you wouldn't expect it to shoot out the lights in a rally, but in fact it did really well during the bear market.

If you know your holdings well enough, you should be able to actually anticipate what they will be doing in a given market environment without really even having to look. And I think that's the best way to manage your portfolio. Anything you own, you should know so well that you should be able to actually anticipate its performance.

Stipp: And this could especially be important with certain active strategies where the managers maybe will invest in deeply discounted markets, for example, or take on more risks in up markets. There can be variations even in a certain type of investment.

Benz: That's absolutely right. Right now, for example, we're starting to see some of the value-minded funds hold cash at this point, and that's obviously going to take the edge off their returns in a market where things have just been going up and up and up.

But if you understand that, and you know that's an outgrowth of the valuation discipline, and you believe in that valuation discipline, you should be fine with the fact that the fund's gains right now maybe aren't quite so great.

Stipp: Christine, you've done some great work this week on helping investors set a plan, but it's also important to stick to that plan, thanks for offering these tips today.

Benz: Thank you, Jason.

Stipp: For Morningstar, I'm Jason Stipp. Thanks for watching.