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The Strategist

Holding Steady

Small adjustments, not big changes, can help keep you moving toward your goals

This year's markets have been rough. Global equity markets delivered negative year-to-date returns into the second quarter. Volatility has put the major indices through record point and percentage swings. And fixed-income yields set record lows before returning to normal as the Federal Reserve slowed the pace of rate cuts. Many investors may wonder if they need an all-cash portfolio.

No, counsels Stephanie Giroux, Chief Investment Strategist for TD AMERITRADE, who sees potential for continued long-term growth in overseas stocks and commodities, along with attractive yields in high-quality corporate bonds and Treasury Inflation-Protected Securities (TIPS). She advises anchoring your portfolio with strategic diversification and fine-tuning with adjustments that seize today's opportunities. (For more of Giroux's thoughts, visit "The Weekly Compass" by logging on to your account and clicking Planning & Retirement, then "Investment Approach.")

Q. Is the subprime mortgage crisis akin to the technology stock bubble burst?

A. This is a much bigger deal, more like the savings and loan crisis of the late 1980s and early 1990s, when many thrifts went under. The tech bubble was confined to a specific market sector, in which valuations had ballooned because of Y2K worries and the anticipation of enormous Internet tech spending. But the subprime crisis affects the daily lives of more people. Homes are people's primary assets, and consumer balance sheets now show more debt than in the past. We've stabilized the financial system from loan losses and write-downs, but we haven't fixed the heart of the problem, which is that consumers are overextended and their primary assets have lost significant value.

Q. When do you think the stock market will recover?

A. Some people are expecting a V-shaped recovery to occur during the third and fourth quarters, with the market shooting back up as quickly as it fell, but that's based on what I think are overly optimistic earnings expectations for the rest of the year. Even though valuations may look low, they're not low enough if you factor in slow-growing corporate profits. We expect a U-shaped recovery, with a protracted, bumpy bottom. You probably won't see a big pickup in earnings growth until 2009, at which point inflation may be a problem.

Q. How should investors respond to that scenario?

A. Investors may want to consider holding more cash than usual — up to 10% of a portfolio — so they are ready to take advantage of potential opportunities. Short-term Treasuries are overbought, with high prices and low yields, but high-quality, longer-term corporate bonds might be an opportunity. We're watching low-quality, high-yield bonds, but it may still be too early since their default rates haven't yet approached the levels often seen in a recession. We also like TIPS, which move up with inflation.

Q. Commodities have outperformed, but they are volatile. How can investors protect against risk?

A. Commodities represent one of the few asset classes that have been strong in the first half. And because commodities don't have a high correlation to equities or fixed income, they're a natural portfolio diversifier. To limit risk, you could invest in a broad basket of hard commodities (mined, not grown), such as metals and oil, and soft commodities (grown, not mined), such as cotton, sugar and corn. You could also manage risk by limiting commodities exposure to about 5% of your portfolio.

Q. Are Exchange Traded Funds (ETFs) becoming too specialized and risky?

A. The proliferation of ETFs has sliced the market in ways that could hurt investors who don't do their homework. But ETFs have also opened up parts of the market to individual investors who didn't have access to them before. There may be less risk in buying an ETF that holds many municipalities' bonds than in buying a single bond from one municipality. Ultimately ETFs can be used alongside or in place of actively managed mutual funds for portfolio diversification.