Japan Stocks Rebound After Sell-off, Leading Asia

HONG KONG (MarketWatch) -- Japan stocks gained in early trading Friday to recover some of the steep losses suffered in the previous session, with exporters aided as the U.S. dollar climbed above Yen101 after a slew of monthly economic data.

The Nikkei Stock Average gained 2.2% to 13,888.10 a day after it plunged by 5.2%, while the broader Topix rose 1.4%. The gains were steady after the sharp volatility seen recently amid concerns over an increase in Japanese government bond yields.

The rebound kept the Nikkei Average on course for modest gains in May -- the 10th straight month of advances -- despite steep losses suffered over the past few days.

Elsewhere in Asia, Australia's S&P/ASX 200 gained 0.5%, and South Korea's Kospi rose 0.4%.

The broad advances came as stocks on Wall Street rose overnight on signs of further improvement in the U.S. housing market, while weaker-than-expected data on first-quarter economic growth and jobless claims raised hopes the Federal Reserve may keep its current level of bond purchases.

"Every U.S. data point about the pace of economic growth is being closely examined by market followers after Federal Reserve Chairman Ben Bernanke indicated that the central bank could pare back its stimulus efforts should the U.S. economy continue to improve," said Perpetual head of investment-market research Matthew Sherwood.

"The Fed needs to improve its communication with the market about what its intentions truly are, but the stimulus is only likely to be reduced, not reversed," he said.

In Japan, the rebound followed data showing April core consumer prices rose 0.3% from March, although they were 0.4% lower from the year-ago month. Industrial production during the same month rose 1.7% from a year earlier, but a survey indicated lingering pessimism, with manufacturers tipping flat output for May and a 1.4% drop in June.

Among the notable gainers in Tokyo, Sony Corp. ( SNE ) jumped 3.4% after several reports said the company has tapped Morgan Stanley and Citigroup to help sound out options for its entertainment business. The reports came after billionaire hedge-fund manager Daniel Loeb called on the electronics major to spin off its entertainment business.

Several other exporters also advanced as the U.S. dollar (USDJPY) traded at Yen101.17 after sliding toward the Yen100 level Thursday.
Shares of Fanuc Corp. (FANUY) jumped 4.2%, and Kyocera Corp. ( KYO ) added 2.7%.

Fast Retailing Co. (FRCOY) gained 3.3% after plunging 11% in the previous session.

Financial stocks also rebounded after recent losses, with Sumitomo Mitsui Financial Group Inc. (SMFJY) rising 1.5%, and Mitsubishi UFJ Financial Group Inc. ( MTU ) adding 0.7%.
In Sydney trade, an overnight improvement in gold prices sent producers of the metal rallying, with Evolution Mining Ltd. (CAHPF) leaping 5.1% and Newcrest Mining Ltd. (NCMGY) ahead by 1%.
Other mining majors also advanced, with BHP Billiton Ltd. (BHP) rising 1.5%, Rio Tinto Ltd. (RIO) up 2.9%, and uranium extractor Paladin Energy Ltd. (PDN.T) adding 3.6%.

The modest overnight U.S. gains also appeared to help the large banks, as Commonwealth Bank of Australia (CBAUY) rose 0.7%, and Macquarie Group Ltd. (MCQEF) added 1.8%.
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Investment Risk

Investment risk is defined as a deviation from an expected outcome. We can express this in absolute terms or relative to something else like a market benchmark. That deviation can be positive or negative, "no pain, no gain." In order to achieve higher returns in the long run you have to accept more short-term volatility. How much volatility depends on your risk tolerance - an expression of the capacity to assume volatility based on specific financial circumstances and the propensity to do so, taking into account your psychological comfort with uncertainty and the possibility of incurring large short-term losses.

Those who are just starting off saving for retirement also need to think about investment risk. While academics and investment professionals struggle to define and measure risk, most ordinary people have a pretty clear understanding of it – what is the chance that I'm going to lose a substantial portion of my money.

It is recommended that new savers and investors be realistic about risk. While any amount of savings is a good start, small amounts of money are not going to produce livable amounts of income in the future. That means that it makes very little sense to invest in fixed income or other conservative investments right at the beginning. Likewise, you don't want to destroy that initial savings right off the bat, so avoid the riskiest areas of the market - no biotech, no gold, no leveraged funds, and so on. A basic index fund (a fund that matches a popular index like the Dow Jones Industrials or S&P 500) is a good place to start; there's certainly a risk that the price will fall, but odds of a total wipeout are nearly zero and the odds favor a reasonable amount of growth.

Risk is inseparable from return. Every investment involves some degree of risk, which can be very close to zero in the case of a U.S. Treasury security or very high for something such as concentrated exposure to Sri Lankan equities or real estate in Argentina. Risk is quantifiable both in absolute and in relative terms. A solid understanding of risk in its different forms can help investors to better understand the opportunities, trade-offs and costs involved with different investment approaches.

Portfolio Construction

Once you are done setting your primary asset allocation you can now turn to selecting funds that flesh out your desired asset allocation and placing them in the most tax efficient manner. If you do not have taxable accounts, then tax efficiency isn’t a huge concern but it is still a factor that should be considered. It is usually best to consider all of your investments together. If you are married you should usually blend accounts held by both spouses into one unified portfolio.

The best place to start building a portfolio is by making a list of all your current investment accounts and the investments in each account. Then, start with the account types that offer the most limited investment choices, which are usually 401k and 403b type plans. These plans normally offer limited fund choices, so starting here and building around the best fund choices is often the best idea. Look at all the funds available in your 401k and list the ones with the lowest expense ratio from each category (US equity, international equity, bonds, etc).

Finally, you must consider the tax consequences of investing, especially in taxable accounts. Generally, the most tax efficient way to use your different accounts is (our thanks to Taylor Larimore and David Grabiner for this list):

1. Invest as much as possible in your tax-deferred and tax-free accounts.

2. Put the most tax-inefficient funds in your tax-deferred and tax-free accounts.

3. Use only tax-efficient funds in taxable accounts.

4. If all else is equal, put funds with higher expected returns in tax-free (Roth) accounts in preference to tax-deferred (traditional 401(k), 403(b), traditional IRA) accounts.

Here is a list of securities in approximate order of their tax-efficiency. (Least tax efficient at the top.):

Hi-Yield Bonds

Taxable Bonds

TIPS

REIT Stocks

Stock trading accounts

Balanced Funds

Small-Value stocks

Small-Cap stocks

Large Value stocks

International stocks

Large Growth Stocks

Most stock index funds

Tax-Managed Funds

EE and I-Bonds

Tax-Exempt Bonds

Investing Priority

The general rule of thumb for investing priority is:

1.         401k/403b up to the company match

2.         Max out Roth

3.         Max out 401k/403b

4.         Taxable Investing

source: bogleheads.org

Asset Allocation

The moment you have identified the split between stocks and bonds, you need to focus on whether you prefer to use funds that cover large parts of the market (Total Market funds) or whether you prefer to slice and dice your portfolio into sub-asset classes. For many people, this choice will be determined by the funds available in their 401k-type plans.

Others may prefer to have fewer funds that cover larger parts of the market for simplicity of management.

One part of the market that everyone needs to consider is international investing. Many experts recommend investing 20-40% of your equity allocation in international holdings.

Some investors believe that 50% is the better number to reflect the position that the US represents in the world economy (approximately 50%). Since none of us can predict the future, the correct number that would return the highest percentage in the next 20 to 30 years could be any of these figures. Like much of investing, the ultimate choice is yours. Pick one number and then stick with it.

Planning your Investment

The first step you should do before thinking about investment is to educate yourself on investing basics. There are several books that do not require difficult math knowledge, or finance know-how.

After educating yourself, you will need an investment plan that includes your desired asset allocation. Your investment plan should look out into the future and include things like a new home purchase in a few years, education expenses for children, and retirement, just to name a few. All of these goals require money in different time frames, and the money should be invested accordingly. Studies have shown that your asset allocation will determine more than 90% of your portfolio return, so you should focus on your asset allocation first rather than on fund selection.

Since risk and return are directly related, your asset allocation should balance your need to take risk with your ability to withstand the ups and downs of the market. Your “Need” can be determined in a lot of ways. If you are young, you have the benefit of many years of compounding, so your need to take risk is low. On the other hand, your portfolio size is probably small, leaving you with a long way to go to reach your retirement goals. As a result, you could argue that your need to take risk is high.

For those investors who are closer to retirement, it may be possible to more closely determine need. First, estimate approximately how much income you will need annually after retirement. For this example, we’ll assume you need $100,000 per year. Next, look at any pensions or social security benefits that will provide a source of income. If a pension provides $30,000 per year and social security provides an additional $20,000 per year, then your portfolio would need to provide an extra $50,000 each year. To prevent running out of money, you should probably start by withdrawing 4% a year or less with an annual inflation adjustment. To generate $50,000 per year at 4% requires a minimum portfolio size of $1,250,000. How close are you to your goal?

Turning to ability, this relates to your ability to withstand the ups and downs of the market without getting nervous and making changes to your asset allocation. Selling in the face of a decline is about the worst thing you can do. Check out this table by Larry Swedroe, based on the 1970s bear market, showing the amount of decline for various stock/bond allocations:

Max Equity - Exposure Max loss

20%...............5%

30%..............10%

40%..............15%

50%..............20%

60%..............25%

70%..............30%

80%..............35%

90%..............40%

100%.............50%

There are other ways to determine an asset allocation, including several rules of thumb:

•           Your age in bonds. So, if you are 40 years old, then use a 60/40 (equity/bond) allocation.

•           110 minus your age = equities (110-40 yrs old=70/30 asset allocation)

•           120 minus your age = equities (120-40 yrs old = 80/20 asset allocation)

•            Vanguard can also help you create an Investment Plan and can make an investment recommendation.