Don’t forget your portfolio

It’s that time of year many of us overhaul closets to remove clutter and clear space. Like our closets, many of us compile investment portfolios over the years – buying individual items here and there. This can result in a portfolio that lacks a clear objective and is less likely to perform at its optimum. Regularly taking a step back to look at your portfolio as a whole is a good discipline.

The media continues talk of markets trading at all-time highs and the potential approach of investment storm clouds. If you think there’s more turbulent times ahead, making sure your portfolio is ready to weather future storms would be worthwhile.

Start by checking your portfolio is balanced

A simple but effective way to look at your portfolio is to consider your allocations between asset classes. Check if you are over or underweight certain asset classes. This is also known as diversification. Look for your percentage split between the 4 main asset classes – Shares, Property, Fixed Income and Cash.

Effective asset allocation can significantly enhance returns and also reduce risk. A common approach is to select a strategic asset allocation based on historical returns of each asset class, volatility of returns and asset weighting which takes account your risk tolerance.

It’s important to remember your weightings can change over time. You may currently have a greater allocation towards certain asset classes as a result of out-performance. Or, your circumstances may have changed, requiring a reassessment of how you’re allocated.

Re-balance to your investment goals and risk tolerance

The purpose of re-balancing is to restore a mix that matches your investment goals, strategy, tolerance for risk and even your stage of life.  Fixed income is an asset class with an important role to play in well-balanced portfolios. Investors with lower risk tolerance, such as those who have passed the halfway mark of their careers, may need a more defensive portfolio.

Even those with higher risk tolerances may still benefit, given the continued uncertainty of share markets and the potential for volatility. If you think there may be more volatile times ahead, increasing your fixed income allocation could be a consideration.

Check you’re not going commando

You may think we’ve confused your closet and your portfolio here, but like good foundation garments bonds should form the predictable base of every portfolio.

American financial theorist Dr William Bernstein coined the phrase:
“Bonds are the underwear in your portfolio – unexciting and not much thought about, but select the wrong pair and you’ll be surprised at just how uncomfortable you are.”

Rather than selecting the wrong pair, many Australian investors are currently ‘going commando’. We are a global anomaly – Australia sits at the bottom of OECD countries in terms of bond allocations. Every other country has a more balanced allocation between shares and bonds. (OECD Pensions in Focus 2018)

An age-appropriate portfolio

For those in or approaching retirement, any capital hit you experience can’t be absorbed now in the same way it could when you were in your 20s. There’s just not enough time for your portfolio to recover.

A general rule of thumb is that balanced investment portfolios should include an increasing portion of fixed income as we move through life.  “Own your age in bonds”, was a famous quote from John Bogle, the founder of global investor Vanguard. The concept being that as you age, your allocation to fixed income should also increase.

Focus on individual items in each asset class

Once you’re happy with the balance of your portfolio, turn your focus to individual investments in each asset class. Look at what you own and why you own it. Ask yourself what role does it play in your portfolio, and how is it helping you achieve your goals?

Each investment should have a clear purpose. Your shares for example may be there for capital appreciation and you may have a Term Deposit to provide income for your daily expenses. Remember, diversification isn’t about the number of investments but rather how each one complements the others.

The purpose of diversification is to have different investment types balancing one another out. A well-diversified portfolio should have investments performing differently – that’s what they’re designed to do.

Those roles should be assigned based on your long-term goal for your investments and how you expect each holding can help get you there. If one of your holdings doesn’t serve a purpose, clean it out. Then make sure any future investments fit their role before you buy them.

Tips for maintaining a well-balanced portfolio

1. Review your investment goals regularly and consider your current and future risk tolerance,
2. Avoid over-exposing your portfolio to any one particular asset class; ensure you are diversified across investments,
3. Create a schedule for reviewing your portfolio regularly. It might be every quarter, twice a year or just once a year,
4. Consider seeking professional advice if you want to ensure you’re making smart investment decisions.

Click here to request a copy of our Investors Guide to Fixed Income

Disclaimer

The information in this article is general in nature. It should not be the sole source of information. It does not take into account the investment objectives or circumstances of any particular investor. You should read the PDS that relates to that Class of XTB prior to making an investment decision and consider, with or without advice from a professional adviser, whether an investment is appropriate to your circumstances. Australian Corporate Bond Company Limited is the Securities Manager of XTBs and will earn fees in connection with an investment in XTBs.