Tim Courtney admits that financial markets do tend to break down from time to time.
A prime example, says the Oklahoma City, Okla.-based portfolio manager, is what's going on today in markets across the globe.
"But markets have proven to be efficient enough over the longer term to dissuade us from trying to time a recovery or squeeze any possible excess losses by using individual stocks," said the chief investment officer for Burns Advisory Group, which is headquartered in Oklahoma but has offices in California and Connecticut as well.
Courtney used to work with large institutional investors at Fidelity Investments on developing retirement plans and asset allocation requirements. He joined John Burns, who started the business and serves as its chief executive, in 1997.
These days, Courtney is a dedicated portfolio developer for the company's advisors across the country. He doesn't engage in individual stock analysis, but instead relies on the techniques and strategies of managers at Dimensional Fund Advisors. He also likes to sprinkle Vanguard Group index mutual funds and exchange-traded funds into allocations for high net worth and institutional client portfolios.
Preserving Capital Is Key
As the year comes to an end, he's making sure money set aside in more-conservative investments remain fully funded according to long-term allocation requirements.
"A lot of people are really focused on yields, so they've got enough interest to live on," said Courtney. "But we don't really look at just interest and yields. We're more focused on total returns and overall growth in a portfolio."
He prefers to take profits from stock positions when markets are doing well and use those proceeds to shore up bond positions. "We don't rebalance back to static allocations. Our ultimate concern is that we don't have to sell stocks when they're way down, like what we're going through now," said Courtney.
Investors who came to the firm a year ago and set up portfolios primarily leaning toward stocks would've seen their fixed-income positions being sold in 2008. "We didn't sell any stock positions this year," said Courtney. "And the reason we didn't is because we set aside enough in our clients' income reserves [through bonds] so we would not need to sell stocks at the wrong time."
He doesn't believe in rebalancing by calendar dates. "We prefer to rebalance based on asset cycles," said Courtney. "We want to make sure that there's enough set aside in a client's income reserves to meet their needs. The fastest way to deplete those reserves over time is by selling stocks at the wrong time."
As a result, portfolio weightings between stocks and bonds can be dynamic. "We don't really see huge swings from year-to-year," said Courtney. "And in most years, we don't even come close to using up someone's income reserves."
During the bear market of 2000-2002, he didn't sell stocks. "We lived off the income of bonds. And if that wasn't enough, we sold shares of the bond funds as a last resort," said Courtney. "There were areas of the market that were doing well, such as real estate, where we were also able to take profits to live on."
The same situation has taken place this year. Courtney has been selling shares of the Vanguard Total Bond Market Index Fund (VBMFX), the DFA Five-Year Government Fund (DFFGX) and the DFA Five-Year Global Fixed-Income Fund (DFGBX). "We've basically been selling anything with a lot of exposure to Treasuries, since those have been doing well this year," said Courtney. "But we're not dumping them wholesale. We're selling pieces of those positions to preserve income for our clients."
The proceeds gained from trimming those bond positions are going into the DFA Inflation-Protected Securities Fund (DIPSX). "With nominal Treasuries offering roughly 0% interest, we feel like TIPS offer a better investment opportunity going forward. And with the amount of money being created right now to deal with the economic problems we're going through, once the economic cycle rebounds, we'd rather hold TIPS than nominal Treasuries," said Courtney.
Positioning For A Stock Market Recovery
He's also putting some money into the Vanguard Short-Term Investment Grade Fund (VFSTX). "It has government and corporate bonds," said Courtney. "At some point, when the market begins to recover, people are going to start coming out of Treasury bonds. We like this fund as a means to keep our government bond positions as short term as possible to negate the impact of any eventual reversal in cycles."
And corporate bonds in a short-term fixed-income portfolio help to boost overall yields for a portfolio, he added.
With stocks, typically smaller companies and stocks oriented more toward value segments of the market lead the way, notes Courtney. "All stocks look pretty cheap right now," he said. "But since we're positioning our portfolios for a time when market cycles change and stocks rebound, our portfolios are sticking with funds investing in traditional value companies, which are more economically sensitive."
He likes right now the DFA U.S. Small Cap Value Fund (DFSVX). It had lost more than 40% so far this year entering Tuesday. "It has taken a bigger hit this year than a lot of small-cap value funds. But that's one of the reasons why we like it," said Courtney.
Over longer periods of time, it has outperformed. "And it has done that by really targeting the smallest and most value-oriented companies in the market—even more so than a fund tracking the Russell 2000 Value Index," said Courtney. "We saw the same thing in 2000-2002. DFSVX fell more during that recession, but it outperformed by nearly 50% once the market cycle reversed and stocks rebounded."
Smaller companies have more difficulties raising money these days as the global credit crunch continues, he says. "When you start to see borrowing costs go down, which is starting to happen right now, these smaller companies will start to benefit," said Courtney. "Those smaller companies are on the front lines of any recovery that's bound to take place."
He also believes international markets will show the same patterns at some point. As such, Burns Advisory Group's client portfolios are investing in the DFA International Vector Equity Fund (DFVQX).
"We're keeping a neutral weighting in large companies, simply because we want to be ready for a recovery and position our portfolios to be slightly overweight in small-cap stocks," said Courtney.
For large-caps, he's using DFA U.S. Large Cap Value Fund (DFLVX) and the DFA U.S. Large Company Fund (DFLCX). Courtney also likes to keep some exposure to mid-caps through the Vanguard Mid-Cap ETF (NYSE: VOE).
As further diversification tools, he also maintains positions in the DFA Global Real Estate Securities Fund (DFGEX). "It has roughly half of its securities in the U.S. and the other half invested in international markets," said Courtney. "We feel that overseas REITs is a burgeoning new market. More companies are starting to accept the REIT structure as we've seen in the U.S. for years."