When markets head south, the extent and speed to which it does so can surprise many. In the last 3 months the US and Hong Kong markets have fallen about 15 - 20%. Can you imagine losing 15 - 20% of your net worth over 3 months? Usually it takes even professional money managers several years to make that kind of return. And don’t forget that even 30% drops are ‘normal’ in a bear market.

But any downturn in the market are buying opportunities so I have been busy thinking about potential buys - except that since almost nothing has escaped the clutches of the bears, everything looks considerably cheaper than they were. And since I do not believe that it is possible to time a bottom, the wisest approach would be to accumulate into the weakest performing sectors over 2008, buying a little bit every month.

I would like to base my decisions on the premise that the long term stories have not changed. And that Asia continues to grow and consume. Basically that means going long everything that China wants. So I have been thinking of putting money into commodities, international banks, infrastructure related companies, and clean energy. But how will that affect my balanced portfolio? Herein lies the problem: How do I maintain a properly diversified portfolio when I’m out there actively picking stocks? If you remember, a properly diversified portfolio does not depend on active stock selection. It depends on maintaining a proper proportion of assets which are diversified (in my case, it’s US and emerging market stocks, fixed income bonds and commodities).

The truth is that it is impossible to do both, and if I had faith that I will be able to outperform the market in the long run I would look to buy into the weakest performing sectors and changing the weighting of my portfolio over time, which means selling into the highest performing asset classes and buying into the lowest performing one. If things get bad for equities then over the long run then that means that I will eventually be almost 100% invested in equities. The only question is whether by cycling into cheap assets in this way I will outperform the market over the long run. Warren Buffet or Benjamin Graham would say yes, and I would agree.

So taking a step back from all this, the overall strategy can be summed up as: diversify into strength and active stock picking into weakness, which will be theme for 2008.