One of the most important elements of investing is dealing with risk. Risk is immeasurable and exists only in the future, which is uncertain. There are many types of risk, but the two most important risks of investing are: loss of capital and unacceptably low levels of return.
Our investment philosophy incorporates two investment adages from Modern Portfolio Theory:
- The need to take appropriate risk – Nothing ventured, nothing gained!
- Diversification – Don’t put all your eggs in one basket!
Diversification among countries, currencies, asset categories, markets and securities, reduces risk dramatically. It provides us with a means of protecting our portfolios against crises and unexpected events. A longer-term perspective also reduces risk.
ASSET ALLOCATION
The proportionate allocation to the four asset categories (cash, bonds, property and equities), accounts for the majority of investment returns. We design portfolios to achieve the agreed-upon goals with the minimum risk possible.
RISK AND RETURN ASSUMPTIONS
The forecast returns we use in our portfolio optimisation process are established by analysing historical risk, return and correlation data for all asset categories, covering as many markets and as long a period as possible. This process allows for some predictability of return and risk in designing portfolios. It does exclude certain products where inadequate history makes future returns unpredictable.
This helps avoid being distracted by fashionable investments and the noise created by institutions fighting to gain market share with complex new offerings.
MARKET TIMING
No one has the ability to time markets well or consistently. Conventional wisdom suggests that the economy proceeds through a business cycle related to interest rates which impact investments and returns. The theory is to move assets from one category to another, as the business cycle develops. While the theory is sound, implementation is difficult. Our experience and academic research on the matter indicate that economists and analysts fail in their attempts at timing. We embrace two passive timing techniques that are more reliable.
- Passive Timing Techniques
– Rebalancing helps take advantage of market cycles. It also gives us the discipline to act when our emotions are driving us in the opposite direction.
– Rand Cost Averaging or Phasing In is a technique that helps avoid the risk of investing all your money at the wrong time. Purchasing at regular intervals results in purchasing fewer units of the investment while prices are high and more while prices are low. The result should be a lower average cost per unit.
- Strategic vs. Tactical Asset Allocation
We are able to judge whether prices or interest rates are appropriate in the long-term and, at times, we do take tactical positions when particular opportunities present themselves. We may make some high conviction, tactical and thematic decisions at times. This is an area where we add value.