In the wake of the financial crisis five years ago in 2008, many people understandably shifted away from equities. In a “flight to safety,” they switched to U.S. Treasury securities and other fixed-income holdings and watched helplessly as interest rates fell-off to almost nothing. Recently, as the economy began to show signs of some recovery, the stock market rose to fresh highs. But many investors still remain reluctant to return to equities, concerned about taking on more risk.

Waiting on the sidelines can be risky, also. In recent months, interest rates have risen slightly from recent lows and some investors now believe they will continue to rise gradually, although unevenly, as rising rates hurt bond values, equities may well be poised to continue their upward turn.

There’s more to it than that, though. Equities have an essential role to play in most portfolios. “We believe virtually all investors need some exposure to stocks,” says Cheryl Rowan, senior U.S. Equity Portfolio strategist at Bank of America Merrill Lynch Global Research and co-head of Merrill Lynch Wealth Management Investment Strategy. “We believe that, historically, there is no better asset than equities to build wealth over the long term. The key is to include them in your portfolio in a smart, risk-managed way.”

Setting and Gauging Your Goals
The principal question isn’t whether to buy stocks or even what stocks to own, but rather what you want to accomplish, in both the short and long term. “There are lots of potential ways to grow wealth,” Rowan says. “You need to start by reflecting on how you want to get there.”

That includes factors such as when you will need money for some particular objectives and the personal risk tolerance. Saving for college tuition, for example, is different from accumulating assets for retirement—even if both are equally important. Because college comes within several years, you may not want to take much risk with those assets, though you still need them to grow. This is an example of our goals to provide scholarship funding now and the need to grow the investment income for future educational withdrawals. For those long term portions, we might consider mature companies with fairly stable earnings that may provide consistent, modest growth. “They’re not as exciting as some other companies, but that’s not their job,” Rowan says. “They provide stable revenues and earnings, and their stock prices tend to be less variable.”

And while security is also important for sustained interest income, the longer time frame gives you an opportunity to push for above-average returns. You might devote a portion of the stock allocation to more aggressive, concentrated holdings, keeping the rest of that portfolio well balanced and diversified.

Staying Diversified
Especially with higher-risk holdings, it’s important to manage risks appropriately, Rowan says. “One way to do that is to include stocks of companies that are not highly correlated with one another.” Rowan further explains, “You don’t want all of the stocks or funds in a portfolio to be affected by the same economic and market dynamics. When everything is going up together, you’ll be very happy, but then there will be a day when you will be very sad.”  To put it another way – do not put all your eggs in the same basket.”

Rowan notes that some investment sectors, seemingly distinct from each other, can in fact be tied to similar market conditions. As an example, take financial stocks and the consumer discretionary sector. They seem completely different, but they are both dependent on the supply and price of credit. Rowan says, “When interest rates rise, it has a negative for both sectors.”

Achieving broad diversification may well require venturing into areas of the market that are unfamiliar to you. Industrials and energy are two sectors largely unknown to most investors. “If you talk about a big discount retailer, everyone understands what it is, what it does and how it makes money,” Rowan says. “Getting a handle on companies that make roller bearings or aircraft engines can be more challenging.”

Protecting Yourself
Keeping a portfolio well diversified also means not abandoning bonds, even with the current low market yields. “It pays to have some high-quality fixed-income securities, because that will protect you from any surprises that might lie ahead,” says Marty Mauro, a fixed-income strategist and co-head of Merrill Lynch Wealth Management Investment Strategy.

In addition, managing a portfolio risk means revisiting your strategy frequently—probably at least twice a year, and maybe more often. Doing so can help you make sure your overall asset allocation, as well as your specific equity and bond holdings, are still aligned with the specific established goals. As Rowan observes, “When markets turn volatile, allocations need to be adjusted. In reviewing the holdings, look at how prices in the market may have affected the weighting of various assets in a portfolio.”

Say, for instance, that you have a higher-risk security accounting for 3% of your original portfolio. If it grows quickly, it could soon make up as much as 8% or 9% of the total holdings, creating an imbalance – and increasing the risk – if the security suddenly begins to lose value. You might consider paring back such an investment like this, selling all or part of it when prices are relatively high and using the proceeds to bolster the portfolio in other ways.

Another reason to review the strategy regularly is to confirm that it’s still lined in achieving the established goals. As you move closer to specific goals or events, you may want to be more conservatively invested. And because some end goals change, just as economic markets do, tell your financial advisor about any significant changes in your situation or your financial objectives. That way, you can make sure that your money is always working towards what matters most to you – allowing you to concentrate on the aspects of the financial plan that can be controlled.

When you have your goals clearly stated and design a portfolio to achieve those goals, it’s much easier to stay focused.  We can get through these lean times with a good strategic plan for the Mississippi Masonic Foundation’s investments to continue to support our scholarship program.

However, there must be changes made in the Williams Digest of Laws that remove restrictions preventing our financial advisor from making such diversified investments that can increase the earnings of the scholarship investment portfolio that have been discussed in this article.  We must be builders.

Always Faithful,
Kenneth Dyer
Grand Master