Creating a portfolio with one trade

There are some investors that enjoy the deep dive into financial reports, revel in the anticipation for earnings season and have excel spreadsheets they visit multiple times a day. There are others that treat investing as a necessary action to protect and grow their wealth and just want to simplify the process as much as possible.

The good thing about capitalism is that it caters to consumer demands and wants. We’ve seen different investment products pop up recently that cater to the crowd that want to invest but want to outsource most of the process.

Micro-investing apps, model portfolios, diversified ETFs – these are some of the solutions on offer. In May of 2022, there were 1.8 million Aussies using micro-investing apps that offer ready-made portfolios for investors, depending on the risk/return profile they are after. There is demand for simplicity.

There are many investors who do not enjoy the process of investing but love the outcome. This is not just new investors but also seasoned investors who want to spend less time maintaining their portfolios.

How a simplified portfolio can help investors

Regardless of which camp you sit in, there is something to be said for a simplified portfolio.

More complex portfolios make you more likely to tinker and overtrade - over monitoring and trading can lead to detrimental outcomes to investor’s portfolios. This has been demonstrated in our ‘Mind the Gap’ study, that looks at the difference between investment and investor returns.

The study has been conducted annually since 2010 and quantifies the impact of investor behaviour on investment returns. The study shows that more volatile funds had larger gaps. And this correlation makes sense. When there’s volatility, it causes fear and nervousness in investors, and leads to redemptions as investors try to avoid more pain.

Another finding from the study is that, in general, big pivot years for the markets lead to bigger impacts from poor timing choices. Investors tend to sell after a bear market and buy after a bull market.

This flies in the face of one of the most well-known investing adages of buy low, sell high. We all intuitively understand the wisdom of this adage, but in practice it is difficult when emotions come into play. This played out during the GFC for US investors, where the gap widened even further – we saw a lot of panic selling at the bottom, missing out on a dramatic rebound.

The gap between investor return and investment return was 2% in equities-based funds and 1.44% in alternative funds. A significant difference over the long-term. The study demonstrates that over the long term, switching in and out of funds and investments is usually to your detriment.

Another large consideration is fees. Many of these model portfolios and investing apps come at a meaningful cost. Flat administration fees and management fees disproportionately impact low balances and are placed on top of the fees of the underlying investment products. The result is poor outcomes for investors.

In an age where many Australians are looking to invest, but don’t want to spend all their time analysing investments – is there an answer?

Like everything to do with investing, it is not clear-cut.

How investors can simplify their portfolio

Investors who do not want to build a portfolio from scratch must walk a tightrope between scalable investment solutions and portfolios customised for their goals.

They face the further complication of managing a suitable asset allocation strategy within the constraints of investment amounts and brokerage. This is especially a problem for investors with smaller balances. Ending up in a situation where you’re investing $500 a month across 5 ETFs and 3 equities is not conducive to achieving strong investing outcomes. Ultimately, every investor’s situation is unique, and there’s no one size fits all answer.

This does not mean that there aren’t ways to simplify investing.

The portfolio construction process can be broken into blocks instead of individually seeking out exposure to asset classes. As a cook, this would be the equivalent of pasta sauce from a jar, but adding depth with sofrito, and salt and pepper (and maybe chilli) to your liking.

The technical term for this is a core-satellite portfolio.

This strategy was theorised before the investment industry evolved to offer retail investors so many multi-asset options.

Core-satellite portfolios revolve around the premise that passive investments can do most of the heavy lifting. They make up the ‘core’ of your portfolio. The ‘satellite’ is where you concentrate exposure in attractive opportunities. This is where you are taking active ‘bets’ that you think will add value.

The industry provides ready-made cores that help investors with lower balances that can’t diversify as easily. These multi-asset investment products are diversified across a range of assets in a single investment vehicle.

The issues with simplifying your portfolio

One downside of these “set and forget” portfolios is that it makes it a bit harder if you need to switch your asset allocation as the need arises. Rather than simply putting new contributions into under-represented asset classes to alter your overall allocation, you only have one option. This option is to switch the whole asset allocation into a different risk profile.

This often results in a taxable event and impacts your investment returns.

There is no free lunch. Everything that’s worth doing in life requires effort.

Although there are some simplified solutions that investors can look at for their portfolios, they still need work. Monitoring and maintaining portfolios across long time horizons is needed to ensure they are still fit for purpose. For example, investing in a 90% equity portfolio at year 1 of a 25-year time horizon will not be the right investments at year 24.

Multi-Asset Funds

Morningstar’s managed fund and ETF coverage includes the Vanguard Diversified ETF range, consisting of 4 ETFs with differing risk profiles. The Balanced, Growth and High Growth are awarded a silver medallist rating, and the Conservative a Bronze.

One trade into the Vanguard Diversified Balanced ETF (ASX: VDBA) gives exposure across asset classes, sectors and styles.

Vanguard Diversified Balanced ETF asset allocation:

The pool of multi-asset offerings widens in the managed fund space. The disclaimer with managed funds is that they usually require a larger initial investment with the benefit that additional contributions do not attract fees or brokerage in most cases.

Perpetual’s Diversified Real Return earns a Silver medallist rating from our Manager Research team. The fund is heavily weighted towards cash as at 14 March 2023. The fund’s mandate allows the manager to allocate anywhere between 0-100% in each asset class, allowing them to decide where opportunities lie, and does not force them to allocate to asset classes where they do not see attractive opportunities.

Perpetual Diversified Real Return asset allocation: