I drove by the cider mill this weekend and saw workers preparing to reopen for the fall season. It’s hard to believe that summer is already winding down.

Apples have always been a major local fruit here in Michigan—right up there with cherries, grapes, and blueberries.

Did you know that the apple core makes up about 30% of the apple? This is according to an editor at The Atlantic, who also speculates, tongue in cheek, that,

If each of us eats an apple a day, as we all do, and we are all wasting 30 percent of our apples at $1.30 per pound, that’s about $42 wasted per person per year—which is $13.2 billion annually, thrown in the trash or fed to pigs.

With that kind of money, we could rebuild the Gulf Coast after a hurricane the size of Rita or buy an entirely new Mark Zuckerberg.

While I wouldn’t waste the savings on a new Zuckerberg (one is quite enough, thank you), I did sympathize with the author. When eating an apple, most of us don’t eat the core. It is underappreciated. Yet the core contains the seeds, and the seeds secure the survival of one of my favorite fruits.

I like to think of the core as “the central portion” of the apple. I think that better prioritizes the core. It is essential to the apple’s persistence on our tables and in our cider.

In much the same way, the core portion of our investment portfolios is often underappreciated and thought of as just a throwaway in the portfolio construction process. In reality, it is the central portion of the portfolio.

As the editors at Morningstar wrote,

“Core holding” and “exciting” don’t go together. But what core holdings lack in thrills, they make up for in importance.

A core holding is just what it sounds like: It’s the central part—or maybe even the only part—of your portfolio. The core requires investments that will be reliable year in and year out. They’re the solid foundation for the rest of a portfolio.

Why is the core so central to one’s portfolio? It goes back to the basics of a portfolio.

Portfolio returns are said to be made up of “beta” and “alpha.” Beta returns are those derived from simply investing in a market—in a bond index or a stock index, for example. Alpha returns are the extra juice that comes from trading, holding alternative investments, or the exercise of tactical expertise. Alpha can enhance the portfolio returns or provide a measure of risk protection.

If you are pursuing a portfolio strategy that includes both beta and alpha, often referred to as a “core and satellite approach” (see illustration below), the core must be allocated the lion’s share of the portfolio. The core portion of the portfolio is the portfolio’s source of beta returns. It is difficult to keep up with a market benchmark if you don’t have a large portion of your portfolio invested in asset classes represented in the benchmark.

Core Satellite Portfolio

There may be times when a bond portfolio does as well or better than a stock portfolio, but over time you are not likely to get stock-like returns from a bond-only portfolio. And the same goes for getting bond-like risk management from a stock-only portfolio.

Therefore, it is important to invest a sufficient amount into the core strategy to make a difference. It has to be enough of an investment to allow the portfolio to keep up with the benchmarks.

In my opinion, 20% to 50% of the portfolio is not enough for a core position. I would prefer to see at least 60% to 70% allocated to the core in order to increase the probability of obtaining the desired amount of beta or market returns for our clients.

Core strategies are pre-allocated to stocks, bonds, and (in some cases) alternatives. They come in various combinations to achieve a level of risk consistent with a number of preselected suitability or risk levels. As a result, three or five combinations ranging from Conservative to Aggressive mixes are usually offered.

Of course, there are two schools of thought on how a core portfolio should be managed. Conventional wisdom is to simply diversify among a selection of different passive index funds. The percentage invested in each is determined by both the suitability level and the interaction of either past or expected returns, volatility, and correlation of the various asset classes.

Unfortunately, this method is subject to a number of flaws. Studies show that the mean-variance methodology used by most of the industry is not robust. It explains the past with the precision that only hindsight can deliver but fails to deal well with an uncertain future in which we all invest.

It cannot respond to new market environments. It remains fully invested no matter how dire the present is or the future looks. Adjustments (so-called quarterly rebalancing) are determined by the calendar instead of market changes.

A better way would be to adopt the time-proven advantages of diversification—creating stock and bond portfolios based on investor suitability but overlaying these portfolios with risk-management methodologies. This is the approach of our dynamic, risk-managed core strategies.

The advantage of this approach is that you seek to capture the index betas—for bonds, stocks, and alternatives—while building in risk protection beyond what simple diversification can accomplish. The approach is responsive to market changes and is meant to be robust for future market conditions and risk environments.

We have seven dynamic, risk-managed core strategies. Each takes a different approach to capturing market beta in a suitability-based wrapper while employing disciplined risk-management systems. Whether you are looking to put trend following or leverage to work for you or searching for faith-based or socially responsible (ESG—environmental, social, and governance) approaches to effectuate your personal values, there is a core strategy for you.

And with our new Quantified Fee Credit (QFC) strategies, multiple core strategies are available at a very low cost.

What I especially like about the QFC strategies is that they each employ two levels of risk management. First, each mutual fund invested in employs multiple risk-management strategies within the funds. Then, an extra layer of protection is employed via the allocation method used among the funds. Two levels of risk management for one low cost.

Finally, with so many core strategies available at Flexible Plan, it is possible to double down on risk management by dividing one’s core portfolio into multiple dynamically risk-managed core strategies. Whether you want to stick to multiple QFC core strategies or diversify among any of our QFC and non-QFC core offerings, both are possible.

In our tests here at the office, I’ve seen better results using a number of core strategies in a single portfolio than in placing all assets in one, albeit risk-managed, basket. For example, you can easily create a portfolio with four different core strategies of 20% each at a client’s suitability level, and then invest the final 20% in some alpha-producing strategies. My testing shows that a smoother growth line results as the added diversification of multiple core strategies further reduces volatility. (If you’d like a copy of the report, let us know here.)

Of course, no discussion of apple cores can avoid talking about the seeds. While many on the internet are now arguing that we should eat the core, few are fans of the seeds. After all, they do release a bit of cyanide when ingested.

And don’t get me started on the cores of other fruit. They’re just the pits!

Sorry for that. On to the …

Market update

World financial markets continued to roil as Turkey and Russia struggled under the weight of new sanctions by the Trump administration. In Russia, the ruble tumbled, but in Turkey, the lira and the Turkish stock market crashed. Prior to today’s opening, Turkey stocks in the Turkish ETF were down over 60% from its high earlier this year.

MSCI Turkey ETF

While the Turkish economy is small, it is the question of infection that most concerned worldwide investors. Amounts owed by the government are gigantic, and it’s the European banks, once again, that seem to be the bag holders.

Stocks in this country held up relatively better than their foreign cousins, as small caps and the NASDAQ managed small gains. The small caps continue to benefit by being largely domestic in their markets and beneficiaries of the higher dollar that accompanied the whiff of chaos in the European air. Emerging markets are now down as an index over 16% since the S&P 500’s last new high back on January 26.

While the market slumped the last three days, a wide array of technical market indicators suggested more gains were just around the corner. Both the three-day dip and the fact that this week is an option expiration week suggest, historically (more than 70% of past cases), that the rest of this week could be positive.

Similarly, the recent setback by growth shares over value issues has been reversed. This too has historically led to higher equity prices.

Of course, the top performer this year has been the NASDAQ. When we check the history books on that index, we find that when the index is up at this point in the year, further gains have almost always ensued. In fact, since 1971, when gains have been in the 10%–20% year-to-date category (as they are this year), the NASDAQ has gone on to post average returns of 12.34% the rest of the year.

Much of the gains in stocks this year have come from amazing earnings growth in the wake of the Trump tax plan. Not only did that growth continue this quarter, but nearly two-thirds of U.S. companies reporting this quarter beat analyst projections of both earnings and revenues. Now, with reporting period ending Thursday, we have to ask ourselves where the impetus for further gains is going to come from.

Although investor sentiment improved this week, it is hard to look at the flow of funds information and have any confidence at all that investors have the slightest idea of what they are doing. As the charts show, investors moved money into bonds and international issues so far this year and took money out of domestic stocks. Of course, the returns year to date have proven every one of those moves was wrong, as the only solidly positive asset class this year has been domestic equities.

Total Equity Bond, mutual fund and ETF Issuance

ICI domestic chart

We have spoken in the past of the incredibly bad timing of magazine cover headlines. They are almost uncannily wrong. Yet here is Fortune’s cover this week:

Fortune Magazine Cover

Draw your own conclusions.

While our short-term indicators remain mixed, the intermediate-term remains bright for stocks. On the regime front, we continue in an All-Terrain regime environment (Normal) that historically has experienced higher returns and smaller-than-average drawdowns in prices. At the same time, we have switched into a volatility regime where returns remain good but the level of risk has clearly increased.

As is usually the case, the indicators are a mixed bag, although I think they are closer to the healthy visage that “an apple a day” inspires than the “rotten to the core” future suggested by Fortune.

All the best,

Jerry

Jerry C. Wagner is Founder and President of Flexible Plan Investments, Ltd. Formerly a tax and securities attorney, Mr. Wagner recognized early on that technology and hedge fund techniques could be applied to help individuals successfully invest, while managing their downside risk. After spending time pioneering new techniques in market analysis, designing quantitative methodologies, and managing investment portfolios, Mr. Wagner founded Flexible Plan Investments in February 1981.

PAST PERFORMANCE DOES NOT GUARANTEE FUTURE RESULTS.  Inherent in any investment is the potential for loss as well as profit.  A list of all recommendations made within the immediately preceding twelve months is available upon written request.  Please read Flexible Plan Investments’ Brochure Form ADV Part 2A carefully before investing. View full disclosures.