Managing a superior risk-adjusted portfolio on a knife's edge

Today I read an article on investmentnews.com . It’s saying the point, so I would like to share it here.

The economy is engaged in a tug of war pitting the debilitating effects of deflation against the colossal re-inflationary efforts of governments around the globe.

Until the outcome of that struggle becomes more certain, we think that the environment for equities is likely to remain challenging.

Deleveraging in the developed regions of the world, and many emerging areas as well, will be the new buzzword for years to come as consumers rebuild their balance sheets by saving more and paying off debt.

Unfortunately, a scenario like this tends to prolong a slowdown.

Fortunately, governments are filling that spending void with massive fiscal stimulus plans. Private-sector debt is being replaced by public-sector debt.

It is our view that the unprecedented re-inflationary efforts under way will win out over the long term, though when that will occur is anyone's guess.

The investment industry is seeing a significant shift toward retirement income as more high-net-worth baby boomers move away from accumulating assets to generating income from their portfolios.

But financial advisers and individual investors are wondering how they will be able to meet income goals as the equity markets experience virtually unprecedented volatility.

Although the global economy is in a perilous state, there are several favorable developments:

• Valuations for almost every global equity market are at or are close to lows that haven't been seen for years.

• Although tight by historical standards, global credit market conditions have eased.

• The enormous easing in monetary policy should allow the global economy to gain traction, eventually.

• In the short term, inflation should go much lower, thanks to the significant decline in food and energy prices — especially in the price of oil — in recent months.

So how should advisers and their clients position their portfolios in this uncertain environment?

We have always thought that diversification and active management should be the hallmarks of a retirement portfolio, and we see no reason to change that approach right now.

Nobody can accurately predict which asset class will be the first to re-emerge when markets recover, and which others will follow suit.

But when this does happen, a portfolio diversified across a range of asset classes, investment styles and geographies should leave investors well-positioned.

In particular, a multi-asset-class strategy that takes a global ap-proach and includes non-traditional asset classes, such as global real estate and currencies, can strength-en a diversified approach.

One way to execute such a strategy is through a fund of funds vehicle, where the manager invests with other managers specializing in a particular geography, investment style or asset class to potentially build a superior risk-adjusted portfolio.


Equally important is managing the portfolio in an active fashion, taking advantage of market trends and market movements in an attempt to position the portfolio more advantageously.

With the end of the long bull market, many investors are questioning the buy-and-hold strategy that by definition takes a passive approach to asset allocation.

That may work when most markets are rising; however, right now we think that the ability to manage risk within a portfolio is critical.

Within a multi-asset-class strategy, the active manager has the flexibility, for example, to add cash or fixed-income securities to an all-equity portfolio, reducing the equity component accordingly.

This doesn't imply the wholesale replacement of one asset class by another, but rather the ability to fine-tune exposure, especially in a broadly diversified portfolio, adding value over time.

The active manager may over- or under-weight exposure to geographical regions, investment styles and market-capitalization categories.

Despite continued market uncertainty, we think that advisers and their clients still recognize the value of diversification and active management, and that the fund of funds model, drawing from a global opportunity set, can help create a superior risk-adjusted portfolio.


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