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  • Tactical Asset Allocation strategy combined with Dividend Growth portfolio and small cap value ETF.
  • Combining TAA Growth index ETF with Dividend Growth portfolio may help investors who are behind in retirement asset accumulation.
  • Determine which holding period has the best outcome of success.

In past articles, we have favored the use of the Powershares QQQ Trust ETF (NASDAQ:QQQ) over small cap value weighted methodology for use with the Market Map model because of QQQ's ultra low expense ratios, tax ratios, and accompanying comparable performance. The model and QQQ also adds a performance advantage historically over the SPDR Trust ETF (NYSEARCA:SPY), and Vanguard Total market ETF (NYSEARCA:VTI).

In this article, we explore portfolio "diversification" using: 1) a portfolio of popular dividend growth stocks 2) the "growth" portfolio (the QQQ ETF) and 3) a "small cap value" portfolio [the Vanguard Small Cap value ETF (NYSEARCA:VBR)]. As many investors find psychological comfort and safety by the "mere exposure effect" of owning a portfolio of the "great" U.S. company names with growing dividend streams, they tend to shy away from exposure to the growth stock and small cap value universes because of perceived risk.

Yet, for the population of middle and upper aged investors that have gotten a late start in their retirement asset accumulation, a compound total return from a strict dividend growth portfolio or the buy and hold of low cost total market fund(s) or S&P500 index fund(s) may be too little, too late in helping them meet their goals. Portfolios consisting of growth and small cap value ETFs combined with the Market Map asset allocation models diversified with a buy & hold/annually rebalanced portfolio of quality dividend growth stocks (with the possible eventual goal of, as preferred by many, a total dividend paying/income producing portfolio), is a reasonable approach in alleviating the reluctance of investing in the growth and small cap equity universes, while exposure to those universes can serve as the "faster turtles" towards the "long term" accumulation of the assets.

In order to build a resolute belief in the "long term" view, we rely on data-driven methods as defense against the "noise" of the financial markets and the anecdotal information presented by the media. Chart 1, prepared by Robert Shiller, reveals total market return statistics for varying time frames. We can see that, over the last 140 years, 20 year investment periods have had 100% probability of success, 15 year have had 95%, and then lower probabilities of success as the data moves left. Since the Market Map model was designed towards the long term investing time frame, we have used the 20 year time frame in our diversification study.

Chart 1

Additionally as described in the beginning of the article, with the increasing longevity of the population, investors who are "slow starters" on their retirement asset accumulation plan and have missed the conventional 30 to 40 year asset accumulation "glide path" window (with a retirement age commencing at 65) typical of a more stable work, salary, and 401K contribution history, may still be afforded a chance in accumulating sufficient assets for a financially satisfying "late" retirement in a 15 plus year accumulation window.

The Quality Dividend Growth portfolio

The Dividend Growth portfolio applied to the diversification study* comprised of 3M (NYSE:MMM), Exxon (NYSE:XOM), Merck (NYSE:MRK), Johnson & Johnson (NYSE:JNJ), McDonald's (NYSE:MCD), Procter & Gamble (NYSE:PG), ConEdison (NYSE:ED), General Electric (NYSE:GE), Altria (NYSE:MO), Coca-Cola (NYSE:KO) [with a switch of for Wal-Mart (NYSE:WMT) on 01/02/08 for performance optimization). The stocks are useful because they possess 40 plus year price history and are popular choices for the dividend reinvestment strategy because of their consistent dividend payment increases.

Additionally, an analysis was conducted on the effect of different rebalancing frequencies on this portfolio over two different 20 year time frames, and we found that, as Chart 2 and Chart 3 reflect, an annual rebalancing frequency was sufficient, did add value to the returns, and was implemented into the management of the 2 and 3 portfolio allocation blends represented below.

Chart 2

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Chart 3

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Portfolio Diversification Using 3 Stock portfolio Universes

Charts 4, 5, 6, and 7 illustrate the types of returns achieved over the past 20 year period in terms of $ accrual using different percentage "blends" of asset allocations of the 3 stock portfolio universes.

Chart 4 represents the first example of diversification "blend". The Quality Dividend Growth portfolio was assigned a 60% allocation and the Growth**, and Small Cap Value portions were each assigned a 20% allocation. The total portfolio was rebalanced every 5 years:

Chart 4

Chart 5 $ growth of each separate portfolio allocation and the combined total return of the 20-20-60% blend since 1994:

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Chart 6 represents the second example of diversification "blend" using a 20-20-60% configuration.

Quality Dividend Growth was again (initially) assigned a 60% allocation and the Growth and Small Cap Value portions were assigned each 20%. However, after a 5 year period, the allocation percentages were switched so that the Quality Dividend portion received 40% allocation and the Growth and Small Cap portions each increased to 30% allocation, or at total of 60% for both. Also, during this switch, the total portfolio was rebalanced.

Chart 6

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Chart 7

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3 Portfolios and Volatility

In the charts 8, 9, and 10 (shown below) we can see that the volatility, as measured by peak to trough drawdown, was highest with the Small Cap value portfolio:

Chart 8

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Chart 9

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Chart 10

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Diversification Using 2 Style Portfolios

In the next article, in consideration of those investors who may have concern about having portfolio exposure to greater volatility as represented by the Small cap universe, we will show the utilization of portfolio blends of the 2 lesser volatile portfolios by excluding the Small Cap Value portfolio from the allocation mix (and consequently forgo style diversification).


** Growth as represented by Nasdaq 100 index/QQQ using the Market Map model. Small Cap value as represented by the French small cap value weighted 3 factor model and Vanguard Small Cap Value ETF using the Market Map model.

"Philosophy Strategy and Patience"

Source: Market Map: Style Diversification With Dividend Growth Portfolio Part 1