A client recently asked me, “What are the thought process/selection criteria and research methods that Financial Freedom employs in selecting and recommending stocks, mutual funds and exchange traded funds?”
Here’s the answer.
Stocks: What Types of Stocks Are We Looking For and Why?
Financial Freedom looks for well-managed companies that dominate in what they do. Everything being equal, we prefer to own companies with major market share in what they do. We generally don’t want to own “Number Two” or “Number Three” in the same industry/market niche. For example, if we own applied materials (chip-making equipment), we probably don’t want or need to own the second or third company that makes the same equipment. The health care industry is an exception to this, as there are a few companies (Pfizer, J&J) that have specific competing dissimilar compelling product lines and potential, meaning it may make sense to own both.
As a general rule, dominate companies tend to offer more consistent earnings, offer consistent dividends and may be better abled to maintain stock value during the types of market conditions that we have experienced during the past three years.
As people age, many prefer the added diversification and reduced volatility benefits of mutual funds and exchange traded funds versus individual stocks. We have the ability to use all of the above depending on your needs and desires.
Mutual Funds: What Do We Consider?
When it comes to mutual funds, Financial Freedom looks at five major components: Individual manager track record; potential as judged by industry analytics; quality and track record of the fund family; fund expense ratios; and whether the fund “added value” above and beyond its category benchmark. All funds that we use are no-load funds.
As part of our analysis, we also look at the ranking of long-term net investment performance versus other funds in the same asset class; forced ranking. Of course, volatility and risk versus return are also considered.
We also look at what specific companies a fund owns and what the evaluation of these companies is going forward, as well as how a mutual fund is diversified.
If it is a health care fund, what percentage is pharmaceuticals versus services or technology? If we own more than one health care fund, do they complement each other or do they overlap? What individual sectors within a mutual fund would we like to own?
We then determine the overall relevance of historical investment returns. Is the same manager in place? What weight should be given to the current holdings in a fund as opposed to the historical results? Given the distressed prices in the technology area, looking at the current fund holdings is probably a better gauge of future returns than to review the last three-year history.
Index and Exchange Traded Funds
We use Index and Exchange Traded Funds to supplement the use of stocks and actively managed mutual funds based on specific needs and investment objectives. As an example, if we want to achieve investment exposure to a specific asset class where an actively managed mutual fund hasn’t consistently “added value” or meets our requirements, an index or exchange traded fund could be a great fit for that targeted exposure.
Financial Freedom Utilizes Individually Managed Accounts
As part of Financial Freedom’s ongoing financial planning, asset allocation, asset management, wealth accumulation and wealth preservation services, we utilize individually managed accounts for each of our clients. Based on each client’s goals and objectives, risk tolerance, term horizon and tax needs, we develop and implement an asset allocation and specific investment strategy that is individually tailored to each client. When we develop a client portfolio, we will consider the use of stocks, stock and bond mutual funds, index funds, exchange traded index funds, CDs, US Treasuries and money market funds. We do not use model portfolios; no two clients will have the exact same portfolio.
We believe that the individually managed account approach provides our clients the following key benefits:
- Increased Tax Efficiency
Individually managed accounts allow you to increase the tax efficiency of your portfolio. By owning individual stocks, bonds and certain highly tax-efficient mutual funds that are identified to achieve specific objectives, we have greater control over the timing and distribution of dividends and capital gains. We also have the ability to actively manage capital gains and capital losses and control the timing of those capital losses to offset other non-investment income.
- Client Specific Customization
With individually managed accounts, we are able to tailor the asset allocation, portfolio diversification and specific investment holdings to each client’s unique needs. This could include increased diversification as a result of a large position in employer stock – for example, in a 401k or profit-sharing plan – or the inclusion or exclusion of particular investments depending on the philosophy or mission of the individual company or investment.
- Overall Flexibility and Control
With an individually managed account, you generally have a greater level of flexibility and control over the many aspects of your portfolio.
- Management Information
Each Financial Freedom client receives an individual monthly statement directly from Fidelity Investments. In addition to the monthly statements, our clients also receive an annual year-to-date statement as of the end of December as well as all of the appropriate tax-reporting information that is required. Clients also have online Internet access to their accounts at any time.
Investment management is all about developing a well-diversified and comfortable portfolio to help investors achieve their life goals and objectives.
At Financial Freedom, we understand that our clients’ objectives may change, which is why we’re always ready to adapt our strategy. Whether working toward growth or protecting principal, the skilled financial planners at Financial Freedom have your back.
At Financial Freedom, we seek to create wealth in excess of inflation by investing in low-cost stocks, mutual funds and Exchange Traded Funds. Using a mix of stock and bond investments, as well as other alternatives, when appropriate, we carefully attempt to manage risk. And we always explain what we’re suggesting and why so our clients understand what we’re doing every step of the way. And lastly, we make no changes in a client’s account without their prior approval.
Financial Freedom has access to a full range of equities and fixed income securities (including more than 7,000 no-load, transaction cost-free mutual funds).
We utilize the Morningstar Rating System to help ensure we maximize return and minimize risk. This system allows us to analyze and track the risk-adjusted performance of each fund we use. Morningstar provides us with a monthly performance update on more than 35,000 exchange-traded and mutual funds. We also use the Morningstar performance averages to evaluate Financial Freedom’s annual investment return performance for each client’s portfolio.
Annual Performance Evaluation
Each year we use the Morningstar data to evaluate how each client’s portfolio performed versus relevant industry benchmarks. This performance appraisal is then reviewed with each client.
We have helped many families – and often times, second generations of clients – for more than 35 years. If you’re interested in a long-term relationship with a trusted financial planning firm, contact Financial Freedom and learn how we can help you too.