The Key Elements of an All-Weather Portfolio

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Building a portfolio than can withstand a range of market conditions requires a high level of skill within a discipline known and referred to as Portfolio Construction.

Portfolio construction is the process of blending asset classes and investments to produce a portfolio that will achieve your long-term investment goals based on your predetermined risk profile. 

Constructing an investment portfolio involves choosing which assets to invest in (asset allocation) and which investments and investment managers to invest with.

The aim is to build a strong, sound investment portfolio that will: 

  • perform consistently
  • deliver superior returns whatever the market conditions 
  • be competitive relative to market benchmarks 
  • The most fundamental principle of investing is the preservation of capital. Capital is not invested unless the expected return compensates for any risk taken.

Diversification

One of the key ways to manage risk is through portfolio diversification. This involves holding a sufficiently broad range of assets to reduce the risks resulting from high exposure to one particular asset class.

Liquidity

As financial markets offer the opportunity to buy and sell assets easily, they provide a high level of liquidity. Assets selected for portfolios offer daily liquidity.

Active management

During periods of market inefficiency, active fund managers can outperform the relevant market index through prudent investment selection and ongoing monitoring. The better quality active managers have demonstrated their ability to outperform index funds over the longer term.

Strategic versus tactical asset allocation

Strategic asset allocation (SAA) involves allocating assets in a portfolio to optimise returns for a given level of risk. SAA is determined based on expected asset class returns and is guided largely by historical data. Tactical asset allocation (TAA) adds value to a portfolio by taking tactical or shorter term positions in an asset class that differ from the SAA position. These opportunities may exist for a relatively short time (tactical) or persist for somewhat longer periods (strategic). 

Portfolio investment management style

No single investment management style can produce superior returns in a single asset over the long term. It's important to hold a mix of different management styles in a portfolio to take advantage of opportunities as they arise in the economic cycle.

Market segmentation

Market segmentation occurs in many forms, such as regional and emerging markets, sector-specific exposure and large, mid and small cap allocations. These sub-groups can sometimes offer investment opportunities to improve portfolio returns through a strategic or tactical bias. 

Geographic segmentation (regional and country specific managers)

Regional asset allocation is left to international investment managers who undertake their own research due to the specialist knowledge required to assess the relative merits of the various countries/regions and to manage currency exposures. As such, specific regional international investment managers will generally not be included in the portfolios. 

Sector exposure

Individual sector exposure and asset allocation is also carried out by individual investment managers due to the high level of expertise and resources required to consistently identify and add value to a portfolio.

Currency management

Most fund managers employ some form of currency management or protection in international funds, particularly where it is expected that currency exposure may detract from performance.

Alternative assets

Alternative asset classes demonstrate non-traditional characteristics, such as a consistently low performance correlation against traditional asset classes. Alternative asset classes may include hedge funds, commodity funds, some agricultural specialist vehicles and structured investments. Boutique managers, including some hedge funds, can add value due to their generally smaller size and specialty focus that allows them to change positions quickly. They may also take larger tactical positions and transact without significantly moving the market prices of the assets they are trading. 

 

Timothy Donlea & Artemas Wealth Management have been providing advice to clients for over 20 years. Contact us by clicking here or alternatively by calling us for a confidential discussion on 02 9221 9699.

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