Having recently attended a 1 day conference about investment asset allocation at the new Arsenal football stadium in London, it became very clear to me that we are adopting the right approach when advising on investing. History has shown that 90% of long term investment returns comes from having the right amount of money in the right asset classes and only 10% comes from timing the market and individual stock picking. So what does that mean?Well, asset classes can include many things but traditionally, you would invest into Cash deposits, property, shares from around the world and finally Fixed interest securities or Bonds (loans to institutions which generate an income return). The benefit of investing across say all four asset classes is that it spreads the risk should one asset class catch a cold. Stock markets for example, have been very volatile over the last 12 months or so and we have seen the FTSE All share and the FTSE 100 fall by about 10% over the period. Had you invested all you money in these indices, you would have seen your portfolio value fall an equivalent amount. If however, you spread your money across the four asset classes, the loss would have been reduced. The amount of money invested therefore into each asset class will depend upon on the level of risk you are prepared to take and the return that you want to achieve.
History also shows that markets go up and market go down and you only make losses if you sell at the wrong time. If you sold immediately after blank Monday in 1987 or in 1999/2000 when the tech bubble burst you would have made losses. Had you then stayed in cash waiting for the recovery and the markets bounced back quickly and you were still in cash, then again you would have missed out. What’s the answer? Sit tight, stay invested and don’t panic when markets fall.
Don’t get me wrong, the future is very uncertain at present and the US credit crunch is hitting hard and effecting global markets and hence even more reason to maintain a diversified portfolio. Sadly however many traditional investment firms normally use just 3 asset classes (bonds, shares and property) when managing portfolios and thus we feel that opportunities are being lost as you can also invest into alternative asset classes such as Commodities, hedge funds and other structured products.
At this seminar, some interesting statistics came out.
If you invested from 1991 to 2008 via a portfolio of 65% UK shares, 25% UK bonds and 10% UK property, your overall annual return would have been 10.2%. The standard deviation (which measures portfolio volatility ) was 10.3% with a maximum portfolio loss of 27.4% over the period.
Over the same period, had you invested via a portfolio of 22% global shares, 25% global bonds, 15% global property, 5% emerging market shares, 8% emerging market bonds, 8% commodities, 15% hedge funds and 5% managed futures your overall annual return would have increased to 11.5%, but more importantly the standard deviation reduced to 6.2% (the lower number the better) with a maximum portfolio loss of 9.8% over the same period.
What does this show? It shows that better diversification can lead to better returns whilst reducing overall downside risk.
Having access to this level of investment diversification is almost impossible to achieve as a small advisory practice and as we pride our skills on financial planning and not investment management, you can see why we decided to outsource investment management to our strategic investment partners. Under our Master Account service, you can access the investment management skills of Tilney Wealth management, who are part of Deutsche Bank. Being such a large institution with 100s of years worth of experience, they can build bespoke portfolios for our clients which include up to 8 asset classes, so you have the reassurance of knowing that all your eggs are not in just one investment basket.