The closest you’ve come to a subprime mortgage is what you’ve seen on the nightly news. So why is your portfolio taking a hit?
What started with overzealous lenders and their bad loans later spread to other corners of the investment world. As a result, a wide swath of stocks and mutual funds experienced declines. “You really can’t hide,” laments Steve Sanders, a financial adviser with Newtown Square, Pennsylvania-based First Genesis Financial Group/CFG, which manages $1.6 billion in assets.
But it might take some digging to fully understand your subprime-related losses. Your first stop should be your statements. Look at what you own. “If a fund is named ‘high-yield’ or ‘high-income,’ or if it’s a sector fund in financial services, you’re definitely going to have greater exposure,” Sanders says.
As mortgage originators like Countrywide Financial Services made loans to borrowers with less-than-stellar credit, they bundled those loans, sliced them up, and sold them to investors, including mutual funds. These securities offered modestly higher yields than those of other fixed-income fare. Now that overextended borrowers can’t pay back their obligations, the value of these investments has fallen (See “S.O.S.: Sorting Out Subprime,” this issue.)
“You’d be hard-pressed to find a bond fund that doesn’t own any mortgage-backed or asset-backed securities,” says Jonas Ferris of Max Advisor L.L.C., a Portland, Oregon-based money manager and founder of the online fund research site MaxFunds.com.
Don’t stop at the fund name. Visit www.morningstar.com, the Website of
the Chicago-based investment research firm, to sift through a fund’s holdings, looking for words like “asset-backed” or “mortgage-backed securities” or “collateralized debt obligations.”It can be hard to avoid having any exposure because such securities have become a huge part of the economy, says Ferris, noting that financial services now make up 20% of the S&P 500.
Sergio Sotolongo, a business owner in Liberty Corner, New Jersey, knows this spillover effect all too well. With financial services and real estate-linked stocks in his mutual funds, Sotolongo-whose company, Student Funding Group, originates student loans-watched his portfolio decline about 10% in a few short weeks in late summer. But he spent 21 years at Goldman Sachs as a managing director of fixed-income, currency, and commodities before striking out on his own in early 2006, and says he’s prepared for the long haul.
“There will be some adjustments that may cause some pain,” says the 51-year-old husband and father of two adult children. “At the same time, real estate has proved to be a great investment vehicle over many decades.” Sotolongo is taking a wait-and-see approach, and investors might be wise to do the same. While some portfolios may have already suffered, don’t make things worse by overreacting and pulling all your money out, say financial advisers.
“If you have a sensible asset allocation strategy, then these kinds of events tend not to have a great impact,” says Earl Romero of the New York-based Romero Group, a financial planning firm that manages $45 million in assets. But be sure to review your portfolio. Because real estate has performed well since 2000, it may be a bigger component of your portfolio than you originally intended. It might be a good time to trim those profits and allocate the proceeds to areas that have lagged, such as large-cap growth stocks.
Sotolongo spent the last 18 months upping his stake in just these kinds of offerings, figuring that after seven years of lackluster returns, they were due for a rebound. Large-cap growth proved a smart move during this year’s volatility. As a group, large-cap growth is up 6.8% in 2007, one of the best domestic equity categories.