MAY 2012
portfolio for retirement savings or an institution investing on behalf of oth- ers is faced today with a bewildering array of choice. The options have expanded beyond recognition since a portfolio of government bonds was the norm,” says Skelt.
The concept of diversification has been around for centuries and it is the twin bull markets in equities and bonds in the 1980s and 1990s that now look like the anomalies. In AD600 the Babylonian Talmud said: “It is advisable for one that he shall divide his money in three parts, one of which he shall invest in real estate, one of which in business, and the third part to remain always in his hands (as it may happen that he will need cash for a profitable transaction).’’ In 1952, Harry Markowitz’s modern portfolio theory gave force to the idea that spreading exposure across asset classes reduces volatility, emphasising the importance of portfolios, risk and the correlations between securities and diversification. It is said his work changed the way people invested. The analysts continue to point out why such a diverse mix works best. Barclays Capital recently compared a portfolio of equities from developed
markets, bonds, property, private equity, commodities, infrastructure and emerging market equities with one consisting of equities from developed markets only. It found over a 15-year period the combination of assets enjoyed higher annualised returns (9.8% compared with 9.4% for devel- oped equities) and a lower worst month (-6.2%, compared with -13.3%). Investors have more tools than ever before to build a diverse portfolio. Ucits III opened up the playing field and many groups entered the fray. Fund groups aim to generate returns in all economic conditions by balancing the asset mix, which has been broadened to include commodities and property. They may now also include fixed-income sub-sec- tors such as leveraged loans and collat- eralised debt obligations.
They have also expanded their fund ranges to tap into new asset classes. Ten years ago, overseas equity income funds were rare. That has changed as many overseas markets have matured. Yields on funds such as JPMorgan Global Emerging Markets Income Trusts, BlackRock Latin American, Henderson Far East and Schroder Oriental, more than match the FTSE All-Share yield.
SOLUTIONS FOR ALL SEASONS
9 ‘ ‘
The challenge when setting allocation policy is
adjusting to the lack of certainty
about returns across the investment landscape
Emerging market debt followed the sovereign debt crisis. Traditionally, it was considered the higher-risk end of the government bond market. Now it could be argued, given the strength of emerging market government balance sheets, it is less risky than previously. Throw in the proliferation of exchange-traded funds, with exposure to gold and many other single-asset classes, and funds adopting hedging strategies, and investors have all the tools they need to build a balanced port- folio capable of hitting their target. But they need to know that correla- tions between asset classes shift, which should lead them to a more active approach to assets in their portfolios. Deciding on an appropriate strate- gic asset allocation involves a wide range of factors. When markets seem particularly unpredictable, disciplined asset allocation provides a way to gen- erate more consistent returns at reduced volatility by taking calculated risks. The importance of a robust and well-considered approach to modelling should not be underestimated. Asset allocation may have been sim- pler in AD600, but it is even more important now.
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