Investors interested in retirement income will find the following portfolio provides respectable yield, is low-cost to operate, and is global in its diversification.
Main Menu: In the following screenshot, we lay out the basic portfolio momentum settings.
- Twelve (12) portfolio offsets are used to reduce the "luck of review day". How this works is more apparent in the third slide or screenshot.
- One period is used between the offsets, so we are looking at the ETF rankings one day apart over a 12-trading day period.
- Two look-back periods are used. ROC1 is 60 trading days, and the longer look-back period (ROC2) is 100 trading days. A weight of 50% is applied to the shorter look-back, and 30% is assigned to the longer (100 trading days) look-back period. Volatility is one of the ranking factors, and a 20% weight is assigned this variable. Less volatile ETFs receive a higher rank.
- For this example portfolio, three (3) ETFs are selected for each tranche or portfolio offset. Four will be selected if there is a tie in the rankings. That happened seven trading days ago.
Dividend Portfolio: The following ETFs were selected for their yield and low operation costs. The criteria for selection were an expense ratio of 50 basis points or lower and a yield of 3% or higher. A yield exception was made for U.S. equities (VTI) and the 20-year Treasury (TLT) so as to make sure the diversification covered the entire U.S. market.
High-yielding ETFs such as DVY and IDV provide coverage of international equities, giving the portfolio broad diversification. Even when holding only three ETFs, the portfolio is well diversified, as we are nearly always holding hundreds of individual stocks.
Tranche Momentum Recommendations: Momentum management comes into play through the following recommendations. 1) To qualify for inclusion in the portfolio, the ETF must first rank above SHY, the cut-off ETF. In the following example, only IDV fails to make this cut. 2) In the latest ranking using look-back periods and weighting set in the Main Menu, REM, PICK, and VNQ rank one through three based on data from 7/1/2016. 3) To avoid "luck of review day", we rank the ETFs over the past 12 trading days. This is known as "tranching" the portfolio. For example, twelve days ago, the three highest-ranked ETFs were REM, HDV, and VPU.
Using the tranche momentum model, we are provided with percentages and the recommended number of shares of each ETF to be included in the portfolio. These calculations take into consideration the amount of cash held in the portfolio. A decision might be made not to hold VOX, as the percentage is low and this particular ETF only made the ranking cut once over the past 12 trading days.
The portfolio is reviewed every 33 days so as to shift portfolio rebalancing throughout the month. This has benefits over monthly reviews.
Risk Reduction Recommendations: Reducing or controlling risk is important to preserving capital, and the following worksheet does just that. There are two primary variables to set so as to provide risk reduction guidance: 1) The SD Multiplier controls the Probability of Stop variables. The higher the SD Multiplier is set, the lower the recommended percentage of the stop variable. If 13.4% is too high, then increase the SD Multiplier to lower the stop percentages. This will, in turn, lower the recommended shares to be held in the various ETFs. 2) The second setting for controlling risk or providing risk lowering guidance is the Max Trade Position Risk percentage. I generally set this percentage so the Maximum Portfolio Risk is 6% or lower.
With these settings, there is a warning that the Current Portfolio Risk is too high and one better do something to reduce the risk. Based on the SD Multiplier and Max Trade Position Risk settings, the Suggested Portfolio Risk is lowered from 6.2% down to 3.9%. To meet this lower percentage suggestion requires adjustments within the current holdings, and the end result raises cash from $16,000 up to $39,500.
The overall goal of this portfolio is to provide dividends for income, hold the best-performing ETFs for capital return, and monitor portfolio risk using the Position Sizing worksheet.
The software used to create and manage the above portfolio is known as the Kipling Tranche 2.5.1 spreadsheet.
This article was written by
Lowell Herr
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Retired physics instructor and now editor of the ITA Wealth Management investment blog.
Analyst’s Disclosure: I am/we are long REM, VTI, VNQ. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
Seeking Alpha's Disclosure: Past performance is no guarantee of future results. No recommendation or advice is being given as to whether any investment is suitable for a particular investor. Any views or opinions expressed above may not reflect those of Seeking Alpha as a whole. Seeking Alpha is not a licensed securities dealer, broker or US investment adviser or investment bank. Our analysts are third party authors that include both professional investors and individual investors who may not be licensed or certified by any institute or regulatory body.
