Diversification has long been a key tenet of most successful investment strategies. You might get away with concentrating your investments in a few areas such as property or bank shares in the short term but in the long term it pays to spread your money around. This has now been overlaid by a new trend towards goals-based investing.
This sees portfolio and wealth management strategies being tailored to meet specific financial goals and objectives rather than simply maximising returns within a specified set of risk parameters.
“The major move within the wealth management industry over the past five years has been the shift to goals-based investing,” says Davy head of portfolio construction Eoin Corcoran.
“Rather than starting off discussions with clients with a focus of what to invest in, conversations now begin with gaining an understanding of what clients want to achieve with their money and then progress to setting an investment strategy to meet these goals.”
According to Corcoran, this has seen clients migrate away from traditional managed funds to portfolios that have a risk level more reflective of their individual circumstances.
“A common phrase used is that ‘a portfolio is not a plan’ meaning that just having investments is not enough,” he explains. “With a clear understanding of your long-term needs, your chance of avoiding common investor pitfalls is greatly reduced. We have seen a move away from investors trying to just beat the market to recognising that they have more individual goals.”
PwC pension solutions group director Munro Dwyer agrees. “Financial strategies have to take into account human nature and behaviour and need to be designed to allow a person achieve their long-term objectives. The strategy has to be based on defined outcomes. Investment with no clear purpose has no benchmark for success.”
Search for diversity
The ongoing search for diversity has driven a move to more globally diversified portfolios. “Irish equities make up less than 0.50 per cent of the entire global stock markets and while investors may be dependent on the success of the Irish economy for their earnings, they can broaden their views when it comes to their investment opportunity set,” Corcoran points out.
“Within portfolios, we have seen increased allocations to asset classes outside of the traditional homes of equities, bonds and property,” he continues. “These alternative funds can help to improve diversification within portfolios as they behave in different ways to other portfolio investments which can help to lower risk and smooth returns over time.”
Niall O’Leary, managing director and head of EMEA portfolio strategists with State Street Global Advisers in Dublin, agrees that goal-based investing offers a better solution for many investors. “A lot of managed funds had a very high allocation to equities,” he notes. “We have created funds that provide smoother solutions for investors and help them achieve their objectives by including multi-asset and absolute return strategies. This offers less volatility than managed funds.”
He believes people have to understand the concept of dollar cost averaging when investing over the long term. “If you are making a monthly contribution to a pension or savings scheme over a long period, the cost of the assets averages out over time. Sometimes you will pay more for a particular asset such as an equity fund and sometimes less – but it’s the average over time that counts. This smooths out volatility over the long term.”
While most people have a natural aversion to volatility in the markets they have to accept some level of risk if they are to achieve decent returns for their investment.
“Where many people have had negative experiences is where they have misunderstood the level of risk taken,” says Dwyer. “This may have been because it wasn’t explained properly to them. Just because we have had five years of growth doesn’t mean we can expect continued growth in the future. There is always a certain level of risk for a certain level of return. Even now, you hear of people saying they are targeting 6 per cent, 7 per cent or even 10 per cent returns with little or no risk. If you want a risk-free investment you have to expect zero per cent returns. People have to understand that if something sounds too good to be true maybe it isn’t true.”
Another thing a lot of people have an aversion to is tax and nobody likes to see their investment returns eroded by taxation. “We take a lot of time to look at the tax implications of investing in different structures,” says George Flynn, associate director with Smith & Williamson Investment Services.
‘Optimal solutions’
“Returns can be taxed as a capital gain or as income, depending on the investment. We try to define optimal solutions for our clients. There are some excellent funds out there but the income from them will be taxed at 41 per cent rather than the 33 per cent rate for capital gains if you are buying and selling an asset.
“When we manage a portfolio for income we try to get a target rate of return which might be 3 per cent or 4 per cent.
“For a client with no debt and no other income that might be okay in terms of tax as it might be at the lower rate. The key is to understand the tax treatment of the investment involved and to take advice.”
One other trend in portfolio management is the repatriation of investments from the UK and the US to Ireland. “The euro-sterling exchange rate has gone from 0.8 to around 0.7 in just a year while last year the euro would have bought $1.40 and now it will get about $1.13,” explains Moneycorp director Brian McSharry.
“This has presented an interesting opportunity for people with investment portfolios in sterling or dollars. For example, if someone has a self-administered pension scheme with London property in it they could sell now and benefit not only from the big uplift in the property market there but also the bonus from the exchange-rate movement of up to 15 per cent.”
He has seen a number of clients make such moves of late but the opportunity is not limited to those with property investments.
“A lot of people working for multinational companies in Ireland get shares as part of their salary package and these have appreciated considerably in value as a result of the depreciation in the euro. The same applies to people who might have Apple or Google shares in their pension funds. No one knows what’s going to happen next year and many of them are taking the opportunity to crystallise the gain while it is still there.”