Five common investing mistakes to avoid

Russell Investments recently posted a list of companies joining and leaving the Russell 3000 index on June 25. In anticipation of this event, many investors have either bought the stocks of companies being added to the index or sold those being deleted from it. Big mistake.

In fact, it might be better to do the exact opposite, because stocks deleted from an index tend to have significantly higher factor-adjusted returns than index additions, and stocks added to an index have "poor long-term returns," according to a study published in the Financial Analysts Journal in 2008 by Jie Cai, an assistant professor of finance at Drexel University, and Todd Houge, a chartered financial analyst and professor of finance at the University of Iowa.

1. Don't sell stocks deleted from an index, or buy stocks added to an index

The Russell 3000 index represents about 98% of the investable U.S. equity universe, and on June 25 about 261 companies will be added to the index and about 205 companies will be deleted from it.

That fact alone shouldn't prompt investors to make buy or sell decisions, said David Zuckerman, a certified investment management analyst and chief investment officer of Zuckerman Capital Management LLC.
"For investors who own stocks that will be deleted from an index, the empirical data indicates that they should not sell their holdings," he said.

"Buying stocks that will be added to an index ahead of reconstitution is not a viable investment strategy, and the data suggest that returns may suffer if such a strategy is followed," he said. "Ultimately, decisions to buy and sell stock should be based on fundamentals and not on index reconstitution."

Buying companies based on an index's reconstitution is just one of four common mistakes investors make.

Five-star mutual funds don't live up to their past

Tim Courtney decided he'd had enough. In meeting after meeting earlier this year, he and his colleagues at Burns Advisory Group had recommended mutual funds to prospective clients, only to be hit with the same response almost every time: Why are you telling me to invest in a three-star rated fund?

That sums up the way many investors allocate money to funds -- look at products that have four- or five-star ratings from investment researcher Morningstar Inc., take that as a seal of quality, and hope for the best. Such decisions are perhaps even more common in volatile markets, when anxious investors view top-ranked funds as somehow better-equipped to handle adversity.

The trouble is that investors seem to forget that star ratings are backward-looking, based on a fund's past performance, and studies have shown the ratings have no predictive value.

"Having to get over that hurdle [of explaining that star-ratings shouldn't influence choices], every time we recommended a fund that wasn't five-star, is something we have to do time and time again," said Courtney, chief investment officer of Burns Advisory, which manages about $300 million and advises about $150 million of 401(k) assets.

Sukuk 1Malaysia

Bank Negara Malaysia has launched a government savings plan, Sukuk 1Malaysia, for Malaysians above 21 years old. This is a 3-year syariah-compliant savings plan which guarantees tax free 5% profit rate per annum, to be paid quarterly. The minimum and maximum subscription is RM1,000 and RM50,000 respectively. There will be a 0.1% admin charge payable to the agent banks when you buy the sukuk.

The key features of this savings plan is available here and the extensive FAQ is available here.

From my personal observation, Sukuk 1Malaysia is good because:

1. Provides much higher profit rate than fixed deposit/cash fund
2. Government guaranteed returns
3. Can sell/transfer easily without any cost.

An antidote to volatility

Would you be interested in an all-weather portfolio that, despite hardly ever changing its composition, performs creditably in almost all market environments?
I thought so -- especially after yet another day of incredible volatility, with the Dow Jones Industrial Average reversing from a nearly 100-point gain early in the session to finish down by 115 points.

Well, consider the so-called "Permanent Portfolio" that Harry Browne recommended to his clients in the late 1970s. At the time, of course, Browne was editor of an investment newsletter called "Harry Browne's Special Reports." Several decades later, he became the Libertarian Party's candidate for president. He died in 2006.

Several of the investment books that Browne wrote during the 1970s and 1980s became bestsellers. One, "Why the Best-Laid Investment Plans Usually Go Wrong," published in 1987, was devoted in large part to introducing investors to the virtues of a diversified portfolio whose composition would stay constant year in and year out -- permanent, in other words, except for annual rebalancing.

Though Browne's idea is not new, the markets of late have led to a renewed interest on the part of many investors. First, it was the worst bear market since the Great Depression, being quickly followed by one of the strongest 12-month rallies in history. And then came the "Flash Crash" in which nearly a thousand Dow points vanished in a period of minutes.