BLOG: It pays to be out of fashion
Too many people don’t get that. In the past year alone, no fewer than five completely different types of investment fund have topped the Investment Management Association’s monthly charts of where investors are putting their money – everything from targeted absolute return funds to funds investing in global emerging markets.
This range gives just a flavour of where some savers may be going wrong. Rather than investing on the basis of how best to achieve their long-term goals, their heads are turned by flavour-of-the-moment funds.
The tax breaks on offer to savers and investors don’t help here. Savers who are trained to think in terms of annual individual savings account (ISA) allowances, not to mention separate allowances for pension investment and other forms of tax-efficient savings, find it hard to think about their portfolios in the round. They focus on each individual investment on a standalone basis, rather than thinking about how it might fit with all the other investments they have already made.
In need of diversity
Inevitably, the result is that investors end up with lop-sided portfolios. One survey published earlier this year suggested that two-thirds of investors have no real diversification at all built into their savings and investments.
Good diversification means having a spread of different types of savings and investment that work together to deliver your investment objectives without subjecting you to undue risk in the process. In practice, it’s all about asset allocation.
For all the heated debate about the merits of a particular share or the talents of an individual fund manager, academic research shows that asset allocation is the single most important contributory factor in the performance of an investment portfolio – accounting for as much as 50 per cent of the returns eventually achieved.
How to build your portfolio
What you need is a framework for your investments. The precise detail of that framework will depend on your attitude to risk – the amount of potential fluctuation in the value of your portfolio you’re prepared to accept – but most investors should have at least some exposure to the main asset classes – equities, bonds, property and cash.
To work out how much exposure you want to each one, set targets for your asset allocation – the proportion of your portfolio that you will invest in each asset. rplan.co.uk publishes model portfolios on its website that give examples of potential asset allocation models for investors with different attitudes to risk, but this is ultimately a personal decision.
The principles of diversification apply within those asset classes too. You’ll want to hold overseas equities as well as UK stocks and corporate bonds as well as government securities, for example. The range of assets required for diversification is one reason why the collective fund approach works well for so many investors.
Keep a close eye on your asset allocation and diversification – even if you do nothing, it will change over time as each investment performs differently. Above all, look at all your investments collectively – and if you can study your entire portfolio via one online platform, you’ll find it much easier to do that.
Experienced savers and investors have learned a valuable lesson. Investment trends may come and go, but portfolio diversification never goes out of fashion.
Andy Creak is director of online investment service rplan.co.uk