Ten Essentials

This weekend I stumbled across a hiking term that I'd never heard before; the Ten Essentials. The Ten Essentials are a suggested list of what everyone who goes hiking should have with them just in case.

The ten per Wikipedia;

* Map
* Compass
* Sunglasses & Sunscreen
* Extra Food & Water
* Extra Clothes
* Headlamp or Flashlight
* First Aid Kit
* Fire Starter
* Matches
* Knife

There are other things suggested in the body of the Wikipedia article including a cellphone and duct tape. While I've never heard of the list I have used most of the things on it during recreational hikes or wildfires I've worked on.

It might be worthwhile to make an essential ten for investing. I think of this as a mix of investment products and strategies to help endure the vagaries of market cyclicality. This post is not a personal finance essential ten which would probably not even be ten; save more, live below your means and don't use credit cards unless you are doing so for points or cash back and pay them off each month but feel free to comment with personal finance essentials.

Ten Essentials of Investing (or maybe it should be portfolio construction) in no particular order;

* Trader's Almanac which is more about learning some market history to help have an understanding how the market works. Many of the market's reactions are not that different from previous events even if the details causing the reactions are different.

* Trigger point for defensive action to protect assets. I use a simple breach of the 200 DMA for the SPX but there are several others and none can be the best for all occasions but they can all be effective for asset protection during a large decline with the proper expectation of not being able to hedge away every negative basis point.

* Internet resource for analyzing sector weightings, country weightings and the like for anyone using funds. I pay for Morningstar's premium service. As lousy as their content the application for portfolio analysis is very good. ETFreplay.com as a free resource is also becoming handier with more tools as time goes on. Avoiding unintended overweights is very important and these sorts of things help.

* Being open to the idea that investing evolves. This pertains to strategy and investment products. Buying and holding on no matter what worked very well from 1982 until 2000 but it has not worked since, at least not for broad domestic indexes or broad global indexes. There will be another period where buying and holding on no matter what will work again and that of course will be another evolutionary step. My answer to this has been to go narrow in terms of countries, sectors and themes with a little bit of stock picking.

* Time to devote to minding your own store or if not finding someone you trust to do it for you. I am a big believer that people can succeed with investing provided they spend the necessary time. The amount of time may vary from person to person and while no one will correct with every decision this is not an impossible task. Additionally some self-training about how to avoid emotional reactions to market behavior also makes sense.

* A good sense of moderation. This is a repeat theme but a little can go a long way. As a bit of a building block think about one stock in a portfolio of 40 stocks. In a year where the stock market were to go up that average 10% then you can generally bet that all the sectors are doing well and that most individual stocks went up by some amount. In that scenario for the market it would be very reasonable that at least one stock out of the 40 held would be up 100% (guessing which one that might be ahead of time would be a much more difficult bet). One stock at a 3% weight that doubled would add 300 basis points of return versus the 1000 basis points in the market. Then add 250 basis points for dividends and the portfolio only needs 450 basis points from the rest of the 39 holdings to keep up with the market. Obviously some holdings would lag but this is the line of thinking that leads me to a little going a long way.

* Inverse index funds. If you don't like them then don't use them but I have found the broad based funds to work very well in hedging large downside moves. The inverse sector have been less predictable than the broad funds and so I don't say the same about those. Again the key here is moderation. A small position will grow to hedge more of the portfolio as the market goes down more.

* Absolute return funds but again only in moderation. Right here the market is up 65% from the March 2009 low so it is very unlikely that return for many absolute return funds will look too hot. This is something that should never go down a lot so it stands to reason it will never go up a lot. Anyone interested in using these types of funds should not want them to be the best performing thing they own.

* Introspection. Knowing our own weaknesses and vulnerabilities goes a long way toward avoiding ever being in situations that could cause a panicked sale or purchase. This can pertain to analytical skills, tolerance for volatility, knowing what you don't know and many others. For example I know I am a sucker for a good story. I get captivated far more often than I take actually action otherwise everyone would own a Chinese toll road, Norwegian fishery, Ukrainian farm and Indonesian plantation that I would never be able to get everyone out of if I had to (this is a slight exaggeration might you get the point).

* What would you add to the list for number 10? What would you remove?

The picture is from a hike on Molokai.