Your ?Investment Dashboard'

PORTFOLIO POINT: Keep track of your investments’ performance with a set of 'dials’ and 'warning lights’.

Most people have better indicators to describe how their car is performing than they do about their much more valuable investment portfolio. Here I would like to suggest an “Investment Dashboard” you can use to improve how you monitor and drive your investments.

First, let’s review what 100 years of automotive engineering suggests you need to know when driving your car. The image below depicts a typical car instrument cluster, which includes:

A speedometer, to see how fast you’re going.
A rev counter or tachometer, to see how hard you are working your engine.
A fuel gauge, to tell you if you are running out of fuel.
An odometer, so you can track your distance travelled and trip progress.
An indicator that reminds you which gear you are in.
Various warning lights that glow when something unusual happens.

There are variations but these are the essentials. With more information you might spend too much time looking down at your instruments than safely on the road ahead; with less information you are at risk of ending up badly on the side of the road.

Unfortunately, I find most people get insufficient feedback to make good investment decisions. For some, managing their investments is like driving through a fog – with the fog also inside the car.

Here’s what I think your Investment Dashboard should look like, and the key instruments you need to monitor:

Performance gauge (your portfolio’s speedometer)

It is important to understand how your investments performed over recent periods, to compare against your expectations for long-term growth and your requirements to achieve your financial goals. It also helps you work out whether you have been rewarded for the extra effort, cost and risk that you – or those you have hired – have taken trying to second-guess major market movements.

Your return should be measured both on an absolute and relative basis. For instance, if your all-Australian equity portfolio is up 5% from this time last year, that’s an absolute gain of 5%. However, if the ASX 300 overall increased by 8.5% for the 12 months to September 30, then that is a relative underperformance of 3.5%. In the graphic above you’ll see both a larger “speedometer”, which indicates absolute portfolio return, and a smaller inner gauge, which indicates relative return. Overall, you can expect annual returns to fluctuate between –10% and 20%, although recent events show it can swing more wildly.

Because you probably invest in a basket of different assets, your relative performance needs to be compared to a benchmark corresponding to your portfolio’s construction. Simply, if your portfolio is 60% in Australian shares and 40% in Australian bonds, your benchmark return is 8% for the 12 months to September 30, given shares and bonds did 8.5% and 7.1% respectively.

Watching your speedometer too carefully can be distracting. I suggest you look at returns quarterly, at most. Some would argue that you won’t get “signal” out of this gauge, only “noise” if you measure returns more frequently than over a three-year period. It is true that you need a long time horizon to make reliably informed decisions, but that doesn’t mean you should keep your eye off this in the meantime. Note that you’ll need the equivalent of a modern trip computer to measure also the volatility or risk taken, which professionals use to also assess performance.

A good portfolio administration system should tell you what return you earned, allowing for various inflows and outflows, for both the portfolio and each investment. You may be able to work this out otherwise from a homebuilt Excel spreadsheet or settle for an estimate from a mirror portfolio tracked using third-party software (see Track your portfolio for free).

It is unacceptable that less-sophisticated investors in large super funds often get better information about investment returns than someone who pays a substantial multiple of fees to, perhaps, a stockbroker who administers their portfolio. If your adviser can’t tell you how your investments performed, then I suggest you sack him or her – if you’re the adviser then you need to stop driving with “L plates”!

Equity – bond mix (your portfolio’s tachometer)

How hard you are revving your portfolio engine is measured by your equity-bond mix.

Just like a car engine, you can run your portfolio too hard for too long and risk damage; that is, you can have too many growth assets for your investment stage. Those who were invested 100% in shares in October 2007 suffered, not necessarily because of experiencing wild swings in portfolio value, but because they had no capacity to buy back into the market to take advantage of bargain prices. You can also run your engine too lean and risk stalling. When you have all your money in cash, your assets won’t keep up in value with creeping inflation.

In this dashboard illustration, I suggest you are at risk if you have more than 70% or less than 30% equity-like investments shown as red lines. Your situation could be different.

Your equity-bond mix is also a very important tool for making adjustments to keep your portfolio in balance. This gauge is so important that, like on a motorbike, it perhaps should perhaps be more prominent than the speedometer. As commented earlier, from time to time you should buy more equities when your equity mix falls below a tolerance limit, and conversely you should sell equities when your exposure rises too high. This is shown here as the green band in the equity-bond mix gauge – here for a portfolio targeting 60% in equities plus or minus a 10% tolerance.

If you maintained your portfolio equity-bond mix in a range like this over the past few years, you would have been selling down bits of equities and derisking your portfolio during the rising 2007 market (when the equity mix needle moved above range); you would then have bought equities again in 2008 and early 2009 when prices were low (when your equity mix was below range when equity prices were depressed and bond prices impressed) and now you would be selling equities after enjoying the recent recovery.

Cash flow (your portfolio’s fuel flow gauge)

Keeping an eye on your net cash flow can help you avoid having too much lazy cash or having to sell assets at the wrong time. At the extreme, it can also alert you to excessive drain on your portfolio, which may leave you stranded and out of fuel.

Inflows into your portfolio arise from new gross contributions, possible refunds of tax credits, dividends, rent, interest income and other distributions from managed investments. Portfolio outflows include private pension and other personal drawings, tax on investment income and certain super contributions and various fees. Unfortunately, it may be some time before you can expect a return of capital if you have invested in any unlisted assets. It is normal for this gauge to show a positive value until late in retirement, when you need to start eating into capital; even then an extreme reading of –10% means you still have at least 10 years of capital reserves.

Investment “wealthometer” (your portfolio’s odometer)

In a car your odometer tells you how far you have driven and lets you determine how far to your destination. The common question, 'Are we there yet?’ translates to 'Have I saved enough to stop working?’ or, if you are retired, 'Have I enough to fund the rest of my life?’

A shortcut answer to this question is to divide the value of your investments (less any debt owing) by your planned or actual retirement expenses. I call this your Make Work Optional ratio (MWO) and I consider this to be one of the most important financial indicators. In short, if this is above 25 there is a good chance you don’t need to keep working. If this gauge reads 10–20 and you’re still working, you are getting close; if it is less than zero, you need to pay off debt before you can begin thinking of quitting work. On the other hand, if you’re retired and your odometer reads above 30, you probably need to do a better job spending the kids’ inheritance. This measure and these benchmarks were derived from our ongoing 'Wealth benchmarks’ study of Australians’ finances.

Investment stage indicator (your portfolio’s gear indicator)

Your investment portfolio has three gears – Accumulation, Transition and Retirement – and each needs different investment strategies. Accumulation is the stage of life where you are building your investment portfolio and relying on earned income to meet expenses. Transition is a stage that begins about five years before and lasts until about five years after retirement, during which time it is critically important to minimise harm to your nest egg: to maintain its momentum without causing permanent capital loss, which could jeopardise the quality of future retirement or longevity. All going well, late in Retirement your challenge is often feeling comfortable enough spending capital. Arguably, this is like putting your portfolio in reverse gear, whereas transition and accumulation are like neutral and forward gears. Unfortunately, the need to remain vigilant means you can’t set your investment gear lever to park.

Warning lights

As in your car, your Investment Dashboard should include lights that warn of potential harm; they might also alert you to opportunity.

In this graphic, three warning lights are lit: a rising interest rate light cautions you about lending out your money for too little for too long (here an hour glass icon to refer to maturity risk associated with investing in traditional long-term bonds); the green dollar sign icon points to an out-of-range Australian dollar, to caution you about investment selection but also highlight the opportunity to invest offshore using a strong dollar; and the crown icon is signalling “legislative risk” as how you structure your wealth and savings is under threat of change.

Other portfolio warning lights might include:

An “insufficient liquidity” light, which glows yellow if over 20% of your assets are not readily transactable, and red above 33%.
An “excess concentration” icon, which comes on if more than 10% of your portfolio is invested in one asset or 25% in one industry sector.
A “cost efficiency” light, which turns yellow then orange then red if your total portfolio costs, including advice, exceed 1.5%, 2% or 2.5% (and perhaps two-thirds of this if you’re not getting advice – both subject to portfolio size).
A “tax efficiency” indicator, which stays on if your portfolio’s tax rate is 30% or more, reminding you of the need to be a tax savvy manager.
A “credit quality” indicator, which brightens progressively as your bond portfolio credit quality descends below A towards junk grade; or your bonds and cash savings are not sufficiently diversified.
An “adviser conflict” caution light, which doesn’t turn off until you stop investing in a product your wealth adviser’s firm manufactures.
An “inflation indicator” linked to CPI, which detects unusual inflationary conditions. Is this one the next to light up?

Finally, all portfolios need a “stockmarket sentiment” indicator, which flashes red when you your cab driver talks to you about his geared share portfolio, and green when he tells you he has given up on shares forever and is moving to property.

Happy motoring!

Doug Turek is the managing director of private wealth advisory firm Professional Wealth.