Pension funds, wealthy families, and risk-averse dreamers with portfolios of stocks and bonds expect an 8% long-term rate of return on their investments. Timothy J. McIntosh quashes these expectations. Over the next ten years he thinks that 5% to 6% is the more likely outcome for a portfolio split evenly between stocks and bonds.
In The Sector Strategist: Using New Asset Allocation Techniques to Reduce Risk and Improve Investment Returns (Wiley, 2012), however, he offers tips on how to get to the magic 8% level of returns. His primary thesis is that “sectors are just as important, if not more so, than international or cap size exposure.” (p. 37) Moreover, “if investors are to consider sectors as a primary component to their investment strategy, three criteria should be used: superior historical investment returns, low correlations with other sectors, low volatility or beta.” (p. 48) The sectors that meet all of these criteria are health care, consumer staples, and energy. Runners-up, with higher risk, are financials and technology.
McIntosh examines these five sectors in some detail, complete with case studies of stocks he purchased for his own clients using fundamental analysis.
Rounding out McIntosh’s recommended portfolio are corporate bonds, some gold, and REITs. McIntosh directs those investors with small accounts (under $30,000) to ETFs and mutual funds rather than individual stocks and offers specific suggestions.
He also presents three model portfolios by asset class: the aggressive, moderate, and balanced. The moderate portfolio, for instance, designed for those between the ages of 40 and 55, contains 25% health care stocks, 25% consumer staples stocks, 10% energy stocks, 7.5% technology stocks, 2.5% financial stocks, 20%BB- to BBB-rated corporate bonds, 5% REITs, and 5% precious metals. The balanced portfolio increases the weighting of bonds to 35%. Over the period 1986-2010 the aggressive portfolio had an annualized return of 11.94%, the moderate portfolio 11.73%, and the balanced portfolio 11.51%. The S&P 500 index had an annualized return of 10.36% and an equally weighted portfolio of stocks and U.S. Treasuries 9.34%.
McIntosh’s asset allocation method is grounded in academic research, but this book is thoroughly practical. For investors going the ETF or mutual fund route, it provides turnkey portfolios. For those who want to be stock pickers, it describes how to winnow down a list of stocks to find the most promising candidates.