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Investing Specialists

A 5-Step Midyear Portfolio Checkup

We help you assess your portfolio's allocations--and its viability.

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Investors looking through their portfolios today may feel a little like homeowners scouting around their yards after a major storm. There may be a few broken tree limbs here and there, but chances are things don't look as bad as they imagined when the wind was rattling the windows and the storm sirens were wailing.

Likewise for checking up on a portfolio after a big shock like Brexit has roiled the markets. While a holding or two might have lost more than expected, a diversified portfolio's total losses may not be as bad as many investors imagined when the nightly news anchors were hand-wringing over the market's precipitous drop over the past week. 

Of course, some investors might choose to follow Vanguard founder Jack Bogle's exhortation to avoid peeking at their portfolios--in good times and in bad--thereby allowing compounding to work its magic. That hands-off tack can be especially valuable for investors who have reacted to past market shocks with actions they later regretted--for example, some retreated to cash during the financial crisis and never got around to getting that money invested. A policy of benign neglect is often the best course of action for younger investors, too; their portfolios should be equity-heavy, period. Too much poking around could induce them to make changes that aren't necessary.

For the rest of us, however, periodic checkups--no more than quarterly, but no less than once a year--can be valuable. By periodically assessing your plan--its overall viability and your investment allocations--you can course-correct in time to improve your portfolio's chances of getting you to your financial goals. You may also be able to improve your take-home results by using tax-planning and other strategies.

As you survey your portfolio at the end of the second quarter of 2016, here are some of the key issues to focus on.

Step 1: Check your progress toward your goals.
The most important step in any portfolio checkup is a basic "wellness check," an assessment of whether your current portfolio balance, along with expected additional contributions over your time horizon, puts you on track to reach your financial goals. Rules of thumb can be a good starting point. If you're a younger accumulator, these benchmarks provided by Fidelity Investments can help you see if you need to step up your contributions. If you're closer to retirement, you can run your portfolio through the 4% guideline: Is 4% of your anticipated kitty at the outset of retirement going to provide you with enough income to augment what you're getting from certain sources of income such as Social Security and/or a pension? If you're already retired, use this opportunity to check up on your current spending rate. Is it in line with your target, or is some belt-tightening in order? 

For a more finely tuned assessment of how you're doing, use a basic retirement-savings calculator--or better yet, two or three of them--to see how you're doing. This article surveys some of Morningstar readers' favorites. 

Step 2: Assess your asset allocation versus your targets.
Because your portfolio's stock/bond split will be the biggest determinant of how it behaves, the next most important step in any portfolio review is to assess your allocation relative to your target mix. Investors with portfolios saved in's Portfolio Manager can use the X-Ray functionality to view their true asset-class exposures; those who don't can avail themselves of Instant X-Ray. (Clicking "Save as a Portfolio" after entering the holdings in Instant X-Ray is the most straightforward way to save a portfolio on the site; that way you can track your portfolio's performance and allocations on an ongoing basis.)

If you don't have an asset-allocation target in mind, Morningstar's Lifetime Allocation indexes can provide some baseline guidance. Alternatively, investors can look to the allocations of a good target-date fund geared toward people with their expected retirement date; Vanguard's Target Retirement funds and T. Rowe Price's Retirement lineups have well-thought-out asset allocations. These allocations aren't a fit for every situation, however. For example, they’re geared toward retirements that are drawn out over many years rather than financial goals that are short-duration, such as college funding. And certain investors who are saving for retirement may not be good candidates for off-the-shelf financial guidance; this article discusses some of the outlier situations. 

Hands-off investors may be surprised to find that even with stocks' recent losses, their portfolios are equity-heavy relative to their targets, thanks to the fact that stocks have trumped bonds over the past seven years. For investors getting close to retirement, in particular, de-risking the portfolio by lightening up on stocks and adding the proceeds to high-quality bonds may in fact be the right course of action, as discussed here. While yields on such bonds don't entice--the Barclays Aggregate Index of high-quality bonds recently yielded less than 2%--the recent market shock illustrates the value of such bonds as shock absorbers in equity-market downturns. 

Step 3: Drill into your sub-equity exposures.
In addition to assessing your portfolio's baseline stock/bond exposure, also drill beneath the surface to ensure that your portfolio's sub-allocations are in line with your targets and that you're not making an large, inadvertent bets. As the second quarter of 2016 winds down, one key weighting to keep an eye on is your equity portfolio's share of foreign stocks. Foreign names have dramatically underperformed U.S. over nearly every trailing period; if you haven't rebalanced, it's a good bet your weighting overseas is lower than you intended it to be. Of course, it might be tempting to pull back on foreign stocks given the uncertainty in Europe and uninspiring growth in emerging markets. But the ugly-looking parts of a portfolio can frequently be the best sources of future return. This article discusses how to divvy up your portfolio between U.S. and non-U.S. shares.

Another pronounced trend on the equity front has been weak performance from small- and mid-cap stocks; small-growth mutual funds, for example, have dropped nearly 15% over the past year, well into "correction" territory. X-Ray provides you with a view of how your equity portfolio is arrayed across the U.S. style box; for some context, bear in mind that the U.S. market currently has about 24% in each of the large-cap style boxes, 6% in each of the mid-cap squares, and 3% in each of the small-cap boxes. Not everyone needs to have a portfolio that mirrors those exposures, but it's helpful to be aware if you're making big bets on a given part of the market.

Step 4: Assess cash reserves.
In addition to checking up on your portfolio's asset-class and sub-asset-class exposure, your quarterly portfolio checkup should include an assessment of your liquid reserves, which may or may not show up in your X-Ray view. (If you'd like to include cash as part of the X-Ray view of your portfolio in Morningstar's Portfolio Manager, use the symbol "CASH$" or enter the ticker for any money market mutual funds that you hold.) For retirees, I typically recommend holding one to two years' worth of living expenses in true cash instruments. The baseline for people still working is three to six months' worth of living expenses in cash.

Step 5: Scout around for tax-saving opportunities.
Shaky markets usually have at least one saving grace: the ability to improve your take-home return with tax-loss selling and other tax-saving measures. You can sell depreciated holdings from your taxable account and use those losses to offset capital gains elsewhere in the portfolio or up to $3,000 in ordinary income. You don't have to sell your entire position to obtain a tax loss; if you're using the specific share identification method of cost-basis accounting, you can cherry-pick those holdings that are underwater and leave in place shares that have appreciated since purchase and would trigger a tax bill when sold. 

Foreign-stock holdings are perhaps among the most obvious spot to investigate tax-loss selling; most diversified foreign-stock mutual funds have posted double-digit losses over the past year. A wide swath of domestic-stock funds have fallen sharply over the past year, too; many small- and mid-cap blend and growth-oriented funds have taken it on the chin. The energy and healthcare sectors are also ripe for tax-loss sales.

In many such cases, you may want to maintain exposure to the very market sectors that have dropped the most. While you can't immediately re-buy the security you've just sold (otherwise you’ll disallow the tax loss), you can maintain like-minded exposure--for example, you could sell out of an individual energy stock and buy an energy ETF, or you could swap out of an actively managed foreign-stock fund and into an index product.

In addition to tax-loss selling, investors with tax-deferred accounts can get a helping hand from falling markets, too. The tax burden associated with converting Traditional IRA assets to Roth will be lower when the market is depressed than when it's performing well.

Christine Benz does not own (actual or beneficial) shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.