The five steps of managing your own portfolio

More and more people these days are managing their own personal portfolios. If the latest statistics are correct, over half of all investors nowadays don't seek the advice of an investment adviser, financial planner or mutual fund salesperson. Nor do they hand over discretionary authority to a professional portfolio manager. They do it all on their own in their discount brokerage accounts.

For the record, I do use an investment adviser for my personal accounts. I always have, and probably always will. Responsibility for results rests with me, but I like to have that second opinion on my own ideas, and I like to have ideas presented to me that I hadn't thought of. My commission costs are higher than they would be if I used a discount broker, but I feel that is more than offset by the advice I get on timing my purchases and sales, and by being made aware of things that happen when I'm not looking at the market.

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Case in point: I owned a bunch of shares in Enron Inc., and got a call from my broker the day it melted down. I had no idea this was going on when he called, and I ended up getting $5.88 per share for the lot. If he hadn't called, next day I would have received zilch for those shares.

But whether a person uses a full-service broker or a discount broker (i.e. not a full-fledged portfolio manager) then in effect they've appointed their own self as their portfolio manager. I wonder how many of those people actually know how to go about doing that job?

Foremost, it's useful to think of portfolio management as a process with five steps. But most key to the concept of it being a process is that it's a continual one: as soon as you finish doing Step Five you go right back to Step One and start it all over again.

So to help you out with managing your portfolio, here are the five steps. The first step could be called 'Know your client,' which means knowing yourself the way a portfolio manager wants to know you. You need to know, and commit to by writing it down on paper, your return requirements (quantified, both before and after inflation), your risk tolerance (not what you want it to be, but what it really is), your tax situation, your time horizon, any legal issues, liquidity requirements and any unique constraints.

The second step is to develop capital market expectations for the next year. Where do you expect GIC and other cash rates to be a year from now? How do you expect bonds to perform over the next twelve months? How about Canadian, U.S. and international stocks, as separate groups? Write down all those expectations.

And don't worry about being wrong, because you will be wrong. As I said in my most recent column, the only way you can hone your forecasting skills in the years ahead is to commit to a number today, however wrong it turns out to be.

The third step I also talked about in my last column: set an appropriate asset mix for your circumstances and capital market expectations, and implement it.

The fourth step is to monitor, and you monitor everything. Monitor the various markets, monitor the general economy and try to get a fix on where the business cycle is headed, monitor your own accounts and holdings. And monitor yourself. A year from now you could be married, divorced, unemployed, in a new job, retired, or all of the above. Each change could affect how you invest.

The fifth step is to measure your performance relative to expectations and benchmarks, and adjust your portfolio as necessary. And the sixth step is to go back to Step One and start all over again.

If you're managing your own portfolio, it's useful to have a process to follow. I invite you to use the one above, in case you don't have a better one.

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