Portfolio Review: Romey Favors U.S. Dollar

May 15, 2008

Using a unique rebalancing strategy, advisor slowly shifts into the greenback, corporate bonds and domestic growth.

Ever since exchange-traded funds hit the market in 1993, Richard Romey has been steering individual investors across the country into what he considers to be superior investment vehicles over traditional index mutual funds.

But not since two years ago has the 22-year veteran advisor been able to completely build portfolios around ETFs. That's when a full slate of bond ETFs launched. "We used to ladder individual bonds," said the president of ETF Portfolio Solutions near Kansas City, Mo.

Last year, his firm completed its full bond ETF lineup with the introduction of the SPDR Lehman International Treasury Bond (AMEX: BWX).

"Now, it's easy to build an all-ETF portfolio and cover every asset class out there," Romey said. "That's something you still can't do with index mutual funds."

Even if more traditional index funds come out, he says ETFs still provide a vastly improved investment structure for individuals. That's counter to what a lot of longtime indexing enthusiasts claim. Romey has been making those arguments since his book, "Strategic Index Investing," was first published in 2003.

"ETFs are superior in terms of tax efficiency. And since investors don't buy or sell from the fund, you have less built-in costs," Romey said.

Buying and selling ETFs through exchanges basically cuts out the middlemen, he added. "And being able to make allocation changes throughout the day greatly increases an investor's liquidity," Romey said.

But he emphasizes that ETF Portfolio Solutions isn't big on trading. Romey has developed nine separate model portfolios based on different levels of risk. His model with 60% stocks and 40% bonds averages about three or four changes a year.

All are due to the rebalancing process or putting new money coming into the firm to work, he says.

"I just don't believe in picking some random date on a calendar to rebalance. The market is fluid. So if you're rebalancing your portfolio on certain set time frames, you can miss out on opportunities to maximizing long-term returns," Romey said.

Last year, for example, the market started out strong until July and August. "If you had been set to rebalance every December, the market was back to where it was at the start of the year," Romey said.

'Acceptable-Range' Strategy

Instead, his client portfolios were rebalanced by early June. That's due to the fact Romey uses a rebalancing strategy that he read about in an academic journal. The researchers concluded that if you implement an "acceptable range" to rebalance, returns are greatly enhanced over time.

"Basically, what it described was a process where anytime an asset class or a sector moves 20%, that's the optimal time to rebalance," Romey said.

Each of the firm's portfolios own the same ETFs, just in differing percentages. The portfolios broadly have exposure to four main asset classes: U.S. stocks, foreign stocks, fixed income and alternatives.

In a common 70% stocks and 30% bonds model, for example, Romey currently has 65% of its stock allocation in domestic ETFs. The biggest position at 25% is in the iShares S&P 500 Index (NYSE Arca: IVV). "We take a top-down approach, starting with the asset class we want covered and then picking the index. In this case, we wanted the S&P 500," he said.

From there, the decision came down purely to costs. "IVV has an expense ratio of 0.09%, which until recently was the low-cost leader," Romey said. "Vanguard has cut some of its expense ratios, including for its Large Cap ETF (AMEX: VV), which is down to 0.07%. But it tracks a different index, the MSCI 750 index."

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