Free tools for portfolio analysis

My process and toolbox for portfolio analysis and diversification

Diversification is one of those words that just SOUNDS GOOD. It practically rolls off the tongue… “I’m going to buy bonds so I can have a more diversified portfolio.” Surely these were words that were spoken by someone intelligent. But, diversifying isn’t as easy as it sounds.

I’ve written before about the dozens of different types of diversification, and I am sure there are dozens more that I didn’t even think of. With all of the potential complexity around diversification, things can get confusing. That’s why it isn’t a bad idea to pursue some professional assistance from a financial planner.

But, since I am a finance nerd I like to experiment with different model portfolios and see how different investments might help me to diversify and develop a portfolio that will perform well in the good times and the bad.

Here’s the process and tools I use for portfolio analysis and diversification.

Step 1: Before I start experimenting I need to know my goals!

This is actually the most important step, and it has nothing to do with portfolio analysis or diversification. I've written in detail about my own process developing my investment beliefs, and how that led to the portfolio I have now.

For those without the time to read that post, I have an easy button. I start by imagining a simple sliding scale: 0 is no risk with no potential gain, and 10 is extreme risk with extreme potential gain (and losses). 0 would be an all cash portfolio, 10 would be all Bitcoin, or diamond mines in the Congo, or something equally ridiculous. 

Obviously, most people want to be investing someplace in the center. I approach this from the perspective of "how much could I lose before I start freaking out". Since my portfolio is only for long term capital appreciation, I could lose 30-50% and still sleep at night. On the sliding scale, I am an 8. Someone who would be comfortable losing 20-30% would be a 6. 

Step 2: Using Personal Capital to find a base allocation for a diversified portfolio

I talk a lot about Personal Capital because it's my favorite financial tool. I keep track of my spending, investments, real estate, loans, credit cards and everything else in my financial life in one location. Plus, it's free. They make money off of clients who choose to buy wealth management services, but for those of us that just want to use their algorithms, it doesn’t cost anything.

Remember the sliding scale from step one? Personal Capital has essentially the same one under the "Investment Checkup" area, and after entering a number into the scale it will suggest a target allocation across all of the different facets of diversification. To use the Investment Checkup tool, there have to be investment accounts loaded in Personal Capital, which can be done by clicking the + icon in the top left hand side of the screen. It’s on the right hand side in the image below.

After connecting accounts, the investment checkup and portfolio analysis area can be reached through the menu under "Planning". Then, it spits out a current allocation based on all of the accounts that have been connected to it. Personal Capital will automatically include all of the accounts that are connected to it, but it is also possible to deselect the accounts that shouldn’t be included in the calculation.

Personal Capital breaks everything out into an easy to understand comparison of current allocation and target allocation. Directly below the checkup, there's a slider to enter the desired risk/return ratio. I like to try different variations to see how the target allocation changes. 

At the very bottom of the page, PC displays some suggestions for changing allocation to better match the optimized allocation they've developed with their algorithms and backtesting. After all, it isn't just about diversification but how to diversify in a way that will help me achieve my goals without exposing myself to tons of risk.

Step 3: Using Portfolio Visualizer to tinker with my allocation

Now, technically step 3 is optional but as someone who is really interested in investing, I think it's crucial. Portfolio Visualizer is the second free tool that I use on a regular basis to check on my investments and optimize my allocation and diversification.

I love Personal Capital but Portfolio Visualizer is a little less cookie cutter. It makes it easy to choose and compare thousands of different investments over time. In the aptly named "Backtest Portfolio Asset Allocation" page, you can select investments and different parameters to look back at investments over time, as you can see below. 

For index based investors, this tool is incredible because it enables you to reference any asset class that you might want to invest in. There's also a page for comparing ETFs or stocks to one another, but I prefer to use the asset class page because it's simpler. 

They have also a broad range of existing model portfolios that can be compared against any other portfolio. Of course, there's detail info and backtested performance at the bottom of the page once everything is selected.

How do I put this all to use? I test and test and test. What's the easiest way for me to expose myself to the most potential upside while limiting my potential downside. It also adds important context to the suggestions that Personal Capital makes. Both tools, if used together, can give you a really good insight into your portfolio and help you to have an informed decision with a professional investment advisor.

It’s never a bad time to start a portfolio analysis

It's actually incredible that either of these tools exist. Ten years ago, no one except professional wealth managers had access to backtesting tools this robust. They can even run Monte Carlo simulations. It's a little like a new toy store opened and everything is free. Have fun!