Over this spring term, I completed an internship with Pinnacle Associates where I learned some of the techniques for determining asset allocation. Whereby, it is important to ask the client questions regarding their time horizon, upcoming expenditures, and risk tolerance. Based on their answer we can decide how to better allocate the assets and when we pick equities, we model them after the 11 sectors of the S and P 500. When selecting stocks we utilized two strategies: active management and passive indexing. With active management we have to make an effort to avoid idiosyncratic risk.
In addition to using passive indexing and asset management, we look to further diversify our stock portfolio by examining large cap stocks representing companies with a market capitalization more than $10 billion. Another way to diversify a portfolio, is by looking at value and growth styles of investing. We can also diversity in the holdings we have within the US and outside the US.
The third technique I learned to diversify a portfolio is by buying bonds and there are two risks that come with them. The first is credit risk and to avoid this try to pick bonds with a BBB (investment grade) rating or higher. The second risk is interest rate risk which means since bonds trade like stocks every day, they are susceptible to interest rate fluctuation. To avoid interest rate risk, simply hold the bond to maturity. When selecting bonds it is important to look at its coupon or interest rate. The relationship between interest rate and bond pricing is inverse. Within bonds there are three types; corporate, government, and municipal. The way we diversify bonds is by the ladder amount, meaning bonds have different maturity dates.
Lastly, I learned a general overview on how to pick stocks. Using indicators such as price to earnings, credit rating, net leverage, dividends, shareholder yield, free cash field, and revenue.
I would like to thank Pinnacle Associates, Ltd. Associates and Timothy Piacentini, CFA for all of their help and guidance over these past several weeks. This experience helped to expand my knowledge of finance and the asset allocation of portfolios and I look forward to taking this knowledge to my summer internship at Ridgetop Research in NYC.
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