The day is not over, but as I write this blog, the S&P 500 is up 2.8%, and the Dow Jones Industrial Average is up 244 points.  It’s days like today that make investing an adrenaline rush.  Of course, it’s months like August that cause investors to panic.  Our advice, don’t succumb to the highs and lows of either.  Easier said than done, but in the long run, one should stay invested to catch the good days.  While there will be periods of negative returns, we find that positive returns often happen in short bursts, and because markets cannot be predicted or timed, then investors are better off investing over long time horizons.  This is the discipline to which we speak of regularly.

Returns can be blinding.  Big movements up and down can bring on all types of emotions and thoughts.  It’s not advisable to turn off the power and completely shut oneself off from the daily news, though it would probably be effective.  A better method is to temper the highs and lows with an understanding that capital markets display higher volatility in short time periods, and lower volatility over long time periods.  Enjoy the big returns, and delight in the knowledge that if you stayed invested, then your discipline is paying off.  Returns will be positive and negative in a random fashion.  As always, we recommend that you stay invested and measure your long-term risk tolerance.

Returns data provided by Yahoo! Finance.  McLean Asset Management cannot guarantee the accuracy of this data. Past performance does not indicate future performance.

Mutual fund expenses is like the game of limbo, the lower you go, the better you perform. In a Morningstar article, it was found that funds with the lowest mutual fund expenses tended to perform better than funds with higher expense ratios. Here’s the study that prompted the article. We do not believe that there is a way to consistently predict fund performance, but we agree that low-cost mutual funds will better serve investors - if only for less money paid out in fees.

If a fund provided you with 3% returns for a year, but that fund has an expense ratio of 1%, then net of fees you only earned 2%. High fees eat away at fund returns, but that’s only one reason to avoid high-cost funds.

If a fund has a higher than average cost, one has to consider things like the turnover within the fund, the ego of the fund manager, or the likelihood that the fund is struggling to stay alive and so is just squeezing as much in fees as it can.

Fund fees should always be considered, but successful investing involves truly understanding the underlying philosophy of a strategy.  Minimize your chances of falling flat on your back and take the time to reinforce your foundation.

Six months ago, on February 3, the S&P 500 closed at 1097.  On April 23, the S&P 500 closed ad 1217.  On July 2, the S&P closed at 1022; and yesterday, the S&P 500 closed at 1125.

Let’s look at this another way:

A 10.9% move from 2/3 to 4/23
A -16% move from 4/23 to 7/2
A 10% move from 7/2 to yesterday.

In total, over the last 6-months, the S&P 500 has grown by 2.5%.  That’s a lot of highs and lows to get a 2.5% return, if one cracked under the pressure of such high volatility then that 2.5% return could very well have been less.

When surfing, “hanging ten” is when you hang all ten toes off the front of your surfboard.  I’m not a surfer, but I think it’s harder than it looks.  And to a surf virgin like me, the logistics surrounding a successful execution of this move looks very risky.  Yet, to an onlooker, the surfer looks cool - just standing on a wave and hanging out.

Successful investing does not require that we be blind to the markets, but there’s a lot to be said for staying cool under fire.  Investors that rise above the noise and churning emotions will usually do well in their long-term approach.  Be aware of the risks that lie below you, but just hang ten and earn your long-term return premiums.

Paul the Octopus successfully predicted the winner of 8 World Cup games.  Like any good active manager, he is now retiring after a perfect run.  Though his career was short, he showed adept skills at indicating strengths and weaknesses of each player, at constructively deconstructing the cohesive bond of each team, and at understanding the sometimes intangible impact of the noisy vuvuzelas.  Observing Paul the Octopus executing his analysis, onlookers are awestruck as each change of skin color, curl of a tentacle, or rotation of an eyeball offers us mere mortals a brief glimpse into the laser-fast, precision guided calculations that only Paul can comprehend.

Sorry to see you go, Paul.  Perhaps in Brazil 2014, Chuck the Cuttlefish can take over your spot.  As we await the next great active managing forecaster to emerge from the sea, perhaps we’ll just bet on all of the teams, and allocate a bit more to the ones that exhibit a greater value tilt.

At UBS, Bank of America Merrill Lynch, and Wells Fargo, advisors are finding additional payout opportunities if they can cross sell their clients for mortgages and loans.  It’s really nothing new, it’s just another avenue for the slightly less scrupulous to push product over service.  And as for keeping a fiduciary responsibility to you, the client, that seems to be getting brushed aside.

Though it might be good for the mortgage industry to find some new blood, which may help to breathe fresh air into a stuttering real estate market, beware of your financial professional who’s only interest is his own.

This push to sell more mortgages and loans was reported by Dow Jones Newswires.

Index funds are typically the best investment option to use in a portfolio.  We know it.  In fact, A LOT of investors know it; yet, there are countless strategies out there that ignore the empirical evidence.  I dare you to listen to the truth and change your investment philosophy.

This article discusses 6 popular strategies, then offers insightful comments about why these strategies may not be a good investment.  In our opinion, the benefits of index funds are hard to beat.

Here are the 6 conclusions:

1. Leveraging a portfolio can be very difficult to manage, and dangerous to your long term wealth creation. Understand that the magnified highs and lows also magnifies your mood swings!

2. Not taking equity risk and over-concentrating in fixed income may smooth your experience, but it is equity risk that drives your portfolio’s return premiums, thus impacting your chances of success at achieving your financial goals.

3. Studies show value index investing to outperform growth index investing.  Understand how your portfolio is constructed, and understand how your index funds are allocated. Fancifully marketed index funds often carry fancy expense ratios for what is nothing more than a plain-vanilla fund.

4. Dollar-Cost Averaging is a great investment method for applying  discipline to your budget, primarily when you are investing income.  With lump sums, sometimes going all in is a better method as it gets your money working more quickly.  Often, this is a psychological choice. Just know that timing the market usually doesn’t work.

5. Don’t chase performance.  This one’s simple.  Just don’t do it.

6. Diversification is not dead.  Investing in commodities does not remove your exposure to inflation risk.  From our perspective, commodities do not provide income, and so we do not consider commodities to be a true asset class.  If inflation is a concern, allocate a bit of your fixed income to TIPS.

Ultimately, index funds that tilt to value, and allocations that tilt slightly to value is a better way to invest in equities.  Fixed income should be used for capital preservation, and not so much for speculation.  Avoid the hype and filter the noise smartly.  Invest well and enjoy your life.

Eugene Fama is a Robert R. McCormick Distinguished Service Professor of Finance at the University of Chicago, Booth School of Business.  He is widely known as the “Father of Modern Finance.”  The link below will take you to an interview he did on CNBC’s Squawkbox.  Check it out to hear his thoughts on capitalism and efficient markets.

Father of Modern Finance

My coworker and I were talking this morning.  Laughingly, he said, there’s no such thing as diversification anymore.  What he meant was that it appears that markets are moving in tandem, and so the benefit of diversification appears lost.    He said it laughingly because he knew that both of our convictions are the same and that we were both already thinking about how to address this kind of statement when it comes up.  This is the extent of our predictions at MAMC.

A few times today, I heard through coworkers or through an article somewhere on the web, that investors are concerned about being invested internationally.  That’s understandable.  The Eurozone economy is facing sovereign debt problems and as Thomas Friedman says, the world is flat - or in other words, globalization has taken root and world economies are more and more intertwined.

Today, the S&P 500 closed almost 4% down.  In other countries, some markets fared even worse. What is the benefit of diversification?  Where would your portfolio be if you were invested 100% in Greek government bonds?  Would you have been slightly better off if you added in sovereign debt from other European nations?  Probably, yes.  Would you have been even better off still if you added in other international securities from around the world?  Again, most likely, yes.  Why?  Because some parts of your portfolio would not have suffered the same magnitude of losses earned in the Greek government debt securities.

It is not historically normal for global markets to move in tandem.  Though losses may be abundant across asset classes, the magnitude of each market’s move is not the same - thus diversification is still completely valid.  To concentrate assets in one asset class is very risky, just as it is to concentrate in one stock.  What if your concentrated position goes the route of AIG or Greece?  How can you minimize the risk and ultimate damage that such a position would have on your portfolio?  The answer is simply to own securities around the world and to control exposure to the more risky asset classes.

How you allocate assets in a portfolio is important, but diversification, patience and discipline are critical.  If your foundation is strong, then the unknown events of the future will be easier managed.

Since the market bottom in 2009, the S&P 500 had risen 70.6% as of Wednesday, May 5^th.  Along the way it had yet to experience a decline of even 10%. European concerns, which were initiated by Greece’s debt crisis, have provided the milieu for such a pullback. During the course of normal market volatility, this is within the realm of expectations and in some ways healthy in terms of establishing a risk premium for the stock market.

What is not within the realm of normalcy was yesterday’s intraday decline. It seems that  trade order errors sparked a massive selloff.  After news of the error was released, the market quickly rebounded 6%.  In our view of the world, this event seems to reinforce our view of efficient markets.

As markets are efficient, it seems that yesterday’s movement highlights that the only way that traders can gain an edge over others is not by identifying fundamentally better stocks, but by being more technologically agile than their peers.  Such a reactive approach does not guarantee success.

In essence, all the time spent on researching stocks to gain an informational advantage is useless. The real advantage comes from being able to get pricing on stocks a nano-second faster than a trader sitting opposite your desk.  This is no way to manage your financial future.

Through extensive academic research and empirical studies, we strive to create strategies that can deal with the unexpected.  As much as we harp about diversification and discipline, these are two of the most important principles of successful investing.  Our approach to these two principles has not changed.

Some trees can share a root system.  On the surface, it looks like each tree is it’s own entity, but underground, root systems graft upon each other and the grove of trees become a single entity.  The Quaking Aspen is one of these trees where it’s said that if lightning strikes, an Aspen Grove is a safe place to be as the complex root system helps to diffuse the electricity.

Today, the Dow had it’s worst intraday loss since 1987, only to rebound sharply and close 3.2% down. The concern is about Greece’s sovereign debt.  The fear is how this impacts Europe, the US, and the rest of the world.  It’s an interconnected world, and when lightning strikes, where do you go and what do you do?

During times when investor emotions start to run high, investors start looking for more and more complex solutions.  I’m sorry that our solution is so simple.

1. Measure your risk tolerance, and determine if your goals can be met while taking on less  risk.

2. Invest in a market portfolio that is globally diversified with a proper mix of equity and fixed  income.

3. Monitor the allocations and trade in a disciplined manner that adheres to the underlying philosophy.

There may be a bit more to it all, but this is generally what’s important.  Keep your money working.  It’s not a loss until it’s been realized, and if you are disciplined, then you will allow markets to grow at their natural pace.  Staying disciplined will allow you to capture every bit of the upside, when it happens.