Well-informed investors are discovering what institutional investors have long understood; that asset allocation, not security selection, is key to driving long-term investment results. Consequently, the most important decision an investor can make is now seen to be asset allocation. For a high performing portfolio, it has been proven that getting the right mix of assets is more impactful on successful performance than the individual securities chosen. Individual security selection is important but asset class selection is vital.
Using a tactical exchange traded fund (ETF) model portfolio is a cost-effective way to gain instant exposure to a diversified portfolio tailored to your own investment objectives; these model portfolios work by combining a number of ETFs and other leading exchange traded products (ETPs) to create a portfolio with a specific risk and/or outcome profile depending on your investment goals. In the past, an advanced asset allocation strategy was out of reach for many individual investors, due to the size of assets involved and the costs of creating meaningful diversification.
ETFs have revolutionised the investment landscape, offering investors a sophisticated tool to efficiently gain exposure to broad market segments, encompassing a wide range of asset classes, equity market capitalisations, styles and sectors. This enables investors to have access to diversified investment portfolios consistent with their financial needs, risk tolerance and investment horizon.
Using ETFs for asset allocation has numerous benefits, including:
Diversification: Careful asset allocation can ensure a higher level of diversification, particularly for investors with a longer-term investment plan. ETFs offer one of the easiest ways to build diversity into a portfolio. By using an index ETF, investors can achieve broad exposure to a market segment, helping to reduce risk and smooth investment returns.
Transparency: Index ETFs enable investors to identify precisely which securities their funds hold at any particular time, unlike actively managed funds where investors have to wait until the end of the month or quarter to review their holdings. This has the particularly important benefit of equipping investors with the knowledge to make informed investment decisions and coordinate their ETF portfolio with their other assets.
This means that the end investor is able to better understand the nature of their investments and then hopefully the risk and reward attributes of them.
Tax efficiency: With ETFs you can decide when to buy and sell your holdings, giving you more control over timings of capital gains and losses. Additionally, the structure of ETFs can reduce capital gains tax that would flow to the investor in traditional managed funds for two reasons; low portfolio turnover and the fact that when ETF investors sell their units, portfolio managers do not need to sell securities to raise cash for the redemptions like they generally do for unlisted managed funds, which means capital gains distributions are kept low.
Monitoring asset allocation on an ongoing basis to make alterations as appropriate is also important; in response to fluctuating market conditions or amended personal investment goals for example. Investors should be mindful of investment classes becoming mispriced, and should strive to identify those which are under or overvalued, to alter their asset allocation accordingly by overweighting the bargains and underweighting the expensive classes.
While utilising advanced asset allocation strategies may not be able to guarantee against losses, they have been shown to significantly reduce investment risk. The growing trend for ETFs illustrates the increasing awareness of the importance of asset allocation above other factors. Choosing the right mix of investment classes is now thought to be the most important decision that an investor can make.
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Mark is a Managing Director of State Street Global Advisors and Head of the Investment Solutions Group, Asia Pacific. Previously Mark worked at Goldman Sachs JBWere in Australia, where he held a number of roles, most recently as an Executive Director in Transition Management. Prior to that role he worked in Equity Derivatives. Mark has earned a Bachelor of Economics from Macquarie University and a Masters of Business in Applied Finance from the University of Technology. |
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