Six reasons you’ll love the Two-Minute Portfolio

1. It has consistently beaten the index over time

You most definitely should not expect the 2MP to outperform in all years. In fact, it lagged the index in five of six years from 2004 through 2009. And yet, the portfolio has better average annual returns over the past five- and 10-year periods. The explanation here is that the 2MP is steadier and less volatile. It doesn’t surge like the index, and it doesn’t plunge like it, either.

Even with transaction costs factored in, the 2MP compares well to the index. On average, maintaining the portfolio in the past 10 years has required the sale of five stocks and the purchase of five others, annually. If we add another 10 trades to ensure all 20 stocks in the portfolio have an equal weighting, we end up with a combined 20 buy and sell transactions a year. With $50,000 in your brokerage account, that would mean commissions of roughly $200 at most (independent brokers like Questrade and Virtual Brokers would cost you much less than that). On a $50,000 account, those commissions would reduce returns by up to 0.4 per cent.

The cost of owning an index-tracking exchange-traded funds could be as low as 0.06 to 0.09 per cent, much less than the 2MP. But the portfolio has in the past beaten the index by enough to offset the higher cost.

2. It has consistently been less risky than the index

The 2MP really shines in bad years for the index. Since 1986, the index has lost money in a calendar year eight times. The 2MP beat the index in each of those eight years and, in fact, made at least a little money in five of them. In other words, the 2MP has only had three down years in the past 28. The portfolio’s worst year was 2008, when it plunged 19.1 per cent. The index lost 33 per cent that year.

The secret of the 2MP’s success is this: While lagging the index somewhat in stupendous years for stocks, it does a far better job of protecting investors in rough years. It all adds up to a less jarring experience than owning the index, or a typical Canadian equity mutual fund.

A basic measure of stock market volatility called beta further highlight’s the difference between the 2MP and the broader market. The benchmark index for a particular stock market always has a beta of 1.0 and less volatile stocks will come in lower than that. The 2MP’s beta is a fairly mild 0.71.

3. You win some, you lose some

Barrick Gold, a big presence in the materials sector, has been a wealth destroyer in this portfolio for two straight years. It fell almost 45 per cent last year and close to 23 per cent in 2012. At the other end of the spectrum is a small technology company called Constellation Software, which surged 91 per cent in 2013 and 61.6 per cent in the previous year.

Constellation is in the mix simply by virtue of the fact that it’s the second-largest dividend payer in the S&P/TSX Capped Information Technology Index behind Open Text, which joins the 2MP this year by replacing MacDonald Dettwiler (reassigned to the industrial sector this past year).

4. It’s a low-maintenance way to invest

The 2MP’s name comes out of the fact that requires only a minimal amount of time every year to keep running. Two minutes may be pushing it, but this portfolio is definitely not hard to manage. For one thing, you’re not analyzing stocks. You simply invest an equal amount in each of the largest two dividend payers in each of the 10 TSX sectors, as measured by market capitalization (share price multiplied by shares outstanding).

I update the 2MP on the first or second Saturday of every year and provide the list of stocks for the year ahead. If you want to find the stocks yourself at any other time, the 10 sectors to include are consumer discretionary, consumer staples, energy, financials, health care, information technology, industrials, materials, telecommunications and utilities.

No matter how much money you invest, you divide it equally into the 20 stocks in the portfolio. There is no investor discretion involved here – you just follow a process.

5. It addresses the poor diversification of the Canadian stock market

The equal weighting of the 2MP means you get identical levels of exposure to all the TSX sectors. With the index, you get a 70-per-cent weighting in financial, energy and materials stocks, and a combined weight of almost 10 per cent in three of the best performing sectors of 2013 – consumer discretionary, health care and technology. This is a key reason why the 2MP did so much better than the index last year.

One proviso with the two-minute strategy is that it requires you to buy smaller, more speculative stocks in the technology and health-care sectors. There simply aren’t any big blue chip Canadian stocks in these areas.

6. It’s dividend-friendly

The dividend yield for the portfolio last year was 3.2 per cent. For 2014, Morningstar Canada projects a yield of 2.9 per cent. Your actual yield could be higher if stocks in the portfolio ramp up their dividends through the year. Long-time two-minute companies such as BCE, Canadian National Railway, Fortis and Toronto-Dominion Bank have regularly increased their quarterly cash payouts to shareholders.

The two-minute strategy does not lend itself to a dividend reinvestment plan because stocks may only be in your portfolio for a year or two. Instead, pool your dividends every quarter, stash them in an investment savings account to earn at least a token amount of interest and then use them as part of your annual portfolio rebalancing.