The Power of Diversification
Posted on: February 1, 2018
I’ve recently welcomed new clients who, unfortunately, have made no return in the last 4 years on their seven figure accounts. This outcome was the catalyst to find a new investment advisor. How is it possible to make no money when all markets have been up during this time frame? ( S&P500 up 69%, Nasdaq up 109%, TSX up 28%)
After looking at their investment statements, the answer was clear. It stems from a common, but dangerous investment philosophy – the belief that you have the ability to predict the future– to time the markets.
My new client’s previous advisor had a high conviction about 5 years ago that we were heading into a bear market. Due to this view, my clients were holding high levels of cash, gold and silver stocks, a random mix of value stocks, minimal US stocks and no international exposure.
In addition to these holdings, the client held a couple of hedge funds and a government bond fund. As a portfolio manager, I do not consider this a professionally managed portfolio.
A real portfolio needs the following:
- Investments allocated across different asset classes – stocks, fixed income and real estate. That allocation is based on the goals of the client and what the required return is to meet those goals.
- Global diversification – Canada represents only 3% of global GDP and our market has a very heavy concentration in resources and financial services. Real growth opportunities reside outside Canada, but it is difficult to predict exactly where the best performance will come from.
- Rebalancing – Portfolio’s need to be rebalanced on a regular basis to keep the asset mix in line with the clients stated goals. They are not rebalanced based on headline news, emotions, chasing returns, or on unwarranted sense of confidence.
This isn’t complicated and it works.
This chart by Russel Investments shows the true potential of being properly diversified. Do your investments look like this? Have you achieved returns similar to the 60/40 balanced portfolio? Or higher if you owned a higher percentage in stocks?
to view chart.
I'm delighted to have these clients on board. My job is to grow their wealth while preserving capital. Their new portfolios are properly diversified and structured to achieve their goals. My team also completed a financial plan that shows they are well on track. When they are ready to retire, there will be more than enough cash flow generated from their investments to meet their needs. They will not outlive their money.