Fonte Financial Advisors’ Investment Management process
- Step 1 – Risk Profile – You need to be able to sleep at night. Adopting an inappropriate risk profile can be detrimental to your financial goals. We will review and complete a risk profile questionnaire to help determine your comfort level with risk in your portfolio.
- Step 2 – Asset Allocation Proposal – Once we have determined the appropriate risk profile for your portfolio we will develop an asset allocation and review a detailed proposal with you outlining the suggested mix of asset classes and investment vehicles.
- Step 3 – Implementation Plan – After reviewing the proposal we will sign a proposed implementation plan outlining the specific transactions including sale of current holdings and purchase of the new asset allocation. If taxes are a concern we will develop an implementation plan for realizing gains and losses during the process.
- Step 4 – Investment Policy Statement – Investment policy statements are road maps for defining the relationship between our clients and their investment manager. The IPS clearly defines client goals and objectives for the investment portfolio, the clients risk profile, restrictions on investments, liquidity requirements and much more. Your advisor will use this roadmap as a guide for investing your portfolio and for confirming your risk profile and goals over time.
- Step 5 – Monitoring and Rebalancing – once a portfolio is implemented we monitor performance, fees and tax ramifications to determine if adjustments are needed. If an asset class is no longer in line with our proposed asset allocation, we may buy or sell a portion to rebalance the portfolio to the target.
We manage investment portfolios on a discretionary basis. Clients give Fonte Financial Advisors discretion to make strategic changes in the investment portfolios we manage on as needed basis.
We are predominantly passive managers. We do not believe in aggressive and regular market timing. We do believe in tactical rebalancing and proactive risk management when making changes to portfolios which often has an element of timing. We are investors, not speculators.
Managing Costs and Taxes
- Low cost investments – We believe costs matter and use low-cost mutual funds and exchange traded funds whenever possible. Internal expense ratios of funds can add as much as 2.5% or more to the underlying cost of investing. Statistically, active fund managers rarely earn returns in excess of indexes the mimic so we believe there is little value to paying for their fees.
- Tax considerations – Taxes can have a major effect on your investment returns over time. We cannot avoid them all together but we can efficiently manage taxes over time. We use strategies like tax loss harvesting which realizes losses in order to offset capital gains and reduce taxes on an annual basis. We recommend use of qualified tax deferral vehicles such as IRA’s and 401K’s to take advantage of the power of long-term compounding of returns without the annual tax liability of non-qualified accounts.
Diversification Above All Else
“Don’t put all of your eggs in one basket.”
- Reduced Risk – Diversification creates a portfolio or asset allocation of multiple investments in order to help reduce risk. Consider, for example, an investment that consists of only stock issued by a single company. If that company’s stock suffers a serious downturn, your portfolio will sustain the full brunt of the decline. By splitting your portfolio between the stocks of many different companies, you can reduce the potential risk of loss. Each additional investment reduces risk further by providing further diversification.
- Risk Profiling – Another way to help reduce the risk in your portfolio is to include bonds, cash and other asset classes. When creating a portfolio that contains both stocks and bonds, aggressive investors may lean towards a mix of 80% stocks and 20% bonds, while conservative investors may prefer a 20% stocks to 80% bonds mix. Fonte uses 5 different risk profiles, from aggressive to conservative, with distinct asset allocations as well as customized asset allocations when circumstances require.
We believe in Modern Portfolio Theory
Modern portfolio theory (MPT) is a theory on how risk-averse investors can construct portfolios to optimize or maximizeexpected return based on a given level of risk they are willing to accept, emphasizing that risk is an inherent part of higher reward. According to the theory, it is possible to construct an “efficient frontier” of optimal portfolios offering the maximum possible expected return for a given level of risk. This theory was pioneered by Harry Markowitz in his paper “Portfolio Selection,” published in 1952 by the Journal of Finance. Read more: https://www.investopedia.com/terms/m/modernportfoliotheory.asp#ixzz4GOqZ7weX
- Modern Portfolio Theory believes an investment’s risk and return characteristics should not be viewed alone, but should be evaluated by how the investment affects the overallportfolio’s risk and return.
- Modern Portfolio Theory allows an investor to construct a portfolio of multiple assets that will maximize returns for a given level of risk. Likewise, given a desired level of expected return, an investor can construct a portfolio with the lowest possible risk. Based on statistical measures such asvariance and correlation, an individual investment’s return is less important than how the investment behaves in the context of the entire portfolio. This is diversification.
- The efficient frontier is the set of optimal portfolios that offers the highestexpected return for a defined level of risk or the lowest risk for a given level of expected return. Portfolios that lie below the efficient frontier are sub-optimal, because they do not provide enough return for the level of risk. Portfolios that cluster to the right of the efficient frontier are also sub-optimal, because they have a higher level of risk for the defined rate of return.
- Every possible combination of assets that exists can be plotted on a graph, with the portfolio’s risk on the X-axis and the expected return on the Y-axis. This plot reveals the most desirable portfolios. For example, assume Portfolio A has an expected return of 8.5% and a standard deviation of 8%, and that Portfolio B has an expected return of 8.5% and a standard deviation of 9.5%. Portfolio A would be deemed more “efficient” because it has the same expected return but a lower risk. It is possible to draw an upward sloping line to connect all of the most efficient portfolios, and this is known as the efficient frontier. Investing in any portfolio not on this curve is not desirable.
- Since the efficient frontier is curved, rather than linear, a key finding of the concept was the benefitof diversification. Optimal portfolios that comprise the efficient frontier tend to have a higher degree of diversification than the sub-optimal ones, which are typically less diversified.
- The Sharpe Ratio is a measure for calculating risk-adjusted return, and this ratio has become the industry standard for such calculations. It was developed by Nobel laureate William F. Sharpe. The Sharpe ratio is the average return earned in excess of the risk-free rate per unit of volatility or total risk. Subtracting the risk-free rate from the mean return, the performance associated with risk-taking activities can be isolated. One intuition of this calculation is that a portfolio engaging in “zero risk” investment, such as the purchase of U.S. Treasury bills (for which the expected return is the risk-free rate), has a Sharpe ratio of exactly zero. Generally, the greater the value of the Sharpe ratio, the more attractive the risk-adjusted return. Read more: https://www.investopedia.com/terms/s/sharperatio.asp#ixzz3yHxHS9Qe
Asset allocation is the process of distributing investments among varying classes of investments (e.g., stocks and bonds). Diversification seeks to improve performance by spreading your investment dollars into various asset classes to add balance to your portfolio. Using these methodologies, however, does not assure a profit and does not protect against loss in a declining market. As with any investment strategy, there is the possibility of profitability as well as loss.