Philosophy

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Coaching versus Planning

Does the information from the Financial Services industry leave you confused and bewildered? If someone really could accurately predict market movement on a consistent basis, what would be their motivation for telling you? If what you thought was the best way to invest in the market turned out not to be…when would you want to know?

Most planners do not get paid for being prudent, they get paid for selling products. The media and financial community often push planning as a solution to all of the investor’s problems. Stock brokers and financial planners have been presented to the public as the solution to the investor’s dilemma. We are shown commercials with Abraham Lincoln following a retired man on the golf course helping him improve his game, brokers showing up for the birth of a child, or buying presents for a clients son. The underlying inference by the traditional financial planning community, and the understanding of people who use planners, is that they are there to help bring peace of mind.

What’s the problem with that, aren’t planners part of the solution? If you’re an investor, chances are you have been involved in relationships with brokers and planners hoping to solve problems around investing. Try as they may to portray their services as unbiased safe havens, many investors know in their gut that the reality is quite different. Obviously not all planners, brokers and financial institutions fall into this category. There are some very well meaning people out there that do a great job helping their clients. The industry at large, however, is skewed against the investor, and when the temptation is great enough, even a good and honest person can end up being self interested.

What a coach does is help you wade through all the complex issues involved in the investing process through regular coaching sessions, both one on one and as a group, we want to focus on creating peace of mind through education. Ultimately, investing is a people problem not necessarily a portfolio problem. The solution is a coach that will educate and enlighten creating clarity and confidence. You do not need to know everything if you have a coach teaching you the few right things!

Financial Abundance’s investment methodology adheres to Free Market Portfolio Theory (FMPT) which is firmly grounded in the academic research of the last 50 years. FMPT is comprised of three primary components:

  • Efficient Market Hypothesis
  • Modern Portfolio Theory
  • Three Factor Model

    Efficient Market Hypothesis (EMH)

    Originally coined by Louis Bachelier in his 1990 dissertation called the Theory of Speculation as well as additional research by Paul Samuelson (MIT), Burton Malkiel (Princeton) and Eugene Fama (University of Chicago), the idea is that the professional managers as a whole cannot “beat the market.” EMH supports the idea that the existing stock prices reflect all the relevant and knowable information so it is impossible to speculate and forecast future prices. Once costs are considered, speculative analysis under-performs a “random walk” approach.

    Abundance utilizes EHM in that it engineers a broad market portfolio comprised of various asset classes of investments without the need to speculate on future prices and earnings.


    Modern Portfolio Theory (MPT)

    Modern Portfolio Theory was developed by 1990 Noble Prize Winner Harry Markowitz. The underpinnings of MPT are that portfolio risk can be reduced by holding various assets that have dissimilar price movements. The cliché “don’t put all your eggs in one basket” is a simple way of explaining that since different types of asset classes do not move in step with one another, it is important to have differing types of investments to manage risk. MPT states that there are two specific types of risk:

  • Systematic Risk-This is specific risk that cannot be diversified away. Recessions and interest rates are examples of the types of risk that cannot be diversified away.
  • Unsystematic Risk-This is known as specific risk. This risk is associated with owning individual stocks. This risk can be diversified away by increasing the number of holdings in the portfolio.

    MPT allows an investor to maximize their return for a given level of risk. Markowitz refers to this as the Efficient Frontier.


    Three Factor Model

    Eugene Fama, Sr. and Kenneth French of the University of Chicago identified that there are three factors that explain investment returns in a portfolio. By constructing portfolios based on this research, you have the potential to capture returns in the market. Until Fama and French developed this three factor model, most investment portfolios were constructed utilizing a single factor approach. This single factor approach known as the Capital Asset Pricing Model (CAPM) states that stocks are riskier than bonds but provide a higher return than bonds. William Sharpe (1990 Noble Prize) first expressed CAPM in the early 1960’s. Fama and French discovered the other two factors in the early 1980’s by researching stock market returns going back to the early 1920’s.

    Free Market Portfolio Theory utilizes the Three Factor Model by engineering and constructing portfolios based on these three factors:


  • The Market Factor-what is the mix of stocks to bonds in the portfolio?
  • The Size Factor-what is the mix of small stocks to large stocks?
  • The Value Factor-what is the mix of value stocks?

    Rebalancing

    Abundance monitors portfolios to ensure that asset categories do not deviate from their intended asset allocation weights and targets. By selling asset categories that have exceeded their target weights and buying more of the underperforming targets, Abundance is adhering to the maxim of selling when the prices are high, and buying when prices are low. This monitoring process is an ongoing discipline that is irrespective of future economic forecast or stock market outlooks and adheres to the principles of Modern Portfolio Theory and the Efficient Market Hypothesis.