How you manage your portfolio is important

I hope you don’t handle your portfolio like you handle your car’s thermostat.

Let me explain.

I got in a fight with my wife, Jean, last summer. It was one of those terrific arguments that only husbands can have with their wives. You know what I mean. We were running errands on an extremely hot afternoon. It’s never fun getting into a car that’s been sitting in the summer sun; the reading on the car’s thermostat: 115 degrees. So, I start the engine and Jean quickly reaches for the knob on the air conditioner and dials the thermostat all the way down to 65 degrees. ‘Whoa, Jean,’ says I. ‘We don’t need to lower the thing all the way down to 65 degrees. Just set it at 72’ ‘ and while I am saying this, I’m turning the dial back up.

At 72, I say, ‘This is the temperature you want.’ Jean’s response is measured and thoughtful. ‘Are you crazy?!’ she asks. ‘It will take forever to cool off the car if it is set at only 72.’ As she dials the knob back down to 65, she explains, ‘The car will cool down faster if you set it at 65!’ ‘You’re nuts!’ I protest, grabbing the knob while narrowly avoiding two parked cars. ‘Think about this, Jean,’ I explain. ‘In order for the car’s temperature to drop from 115 degrees to 65, the temperature must first reach 72 degrees. Therefore, you’re not accomplishing anything by setting it at 65.’

Jean returns the setting to 65 then stares out the window, giving me a great view of the back of her head. I dial it back up to 72 and try again to persuade her. ‘Look,’ I say, ‘the car is now at 100 degrees. You want it to be 72. The fan is already on maximum. If you set the temperature at 65, the fan will simply blow longer. Instead of stopping at 72, the fan will continue to blow hard until the temperature reaches 65. That’s too cold!’

Do you behave like Jean when it comes to your investment portfolio? If you’re unhappy with your current return, do you switch into more aggressive, speculative, high-profit seeking investments in an effort to boost your return? And then, when those investments lose money (as high-risk investments invariably do), do you sell everything and move to money market accounts and bank CDs? Then, when you get tired of earning such a low return, you pile everything back into stocks, beginning the cycle all over again. Guess what? You are treating your portfolio like the temperature gauge in your car: You’re bouncing back and forth, wondering why you’re either making too little or losing too much.

Stop playing Ping-Pong with your investments. Determine the level that’s best for you; create a target portfolio that’s designed to operate efficiently at that level, and then leave the portfolio alone. It will take care of itself. This solution, of course, involves development of a diversified, balanced portfolio that is long-term oriented. Set it and forget it. It works for car thermostats when you’re taking a long road journey, and it can work for your portfolio when you’re taking a long investment journey ‘ say, saving for your retirement.

Financial Adviser Ric Edelman is the author of several best-selling books about personal finance, including ‘Ordinary People, Extraordinary Wealth’ and ‘Discover the Wealth Within You.’ You can e-mail him at [email protected].