The 'Bucket Style' Investment Strategy

From the Uber driver to that ‘guy’ at a BBQ, everyone seems to have the “can’t lose” investment strategy to make money, particularly during volatile times.

Leaving the ‘armchair’ experts to the side for a moment, here are some common investment strategies I often observe:

-??????‘Actively’ invest in yourself and grow your own business.

-??????Select an asset class you feel you know very well and go all in on a single asset class exposure, such as residential property.

-??????Implement an asset allocation across varying asset classes. But underneath this, there are different ways to manage the asset allocation. I classify this as a ‘bucket strategy’.

What is an asset allocation??

This is the process of splitting up your wealth and investing it into different asset classes, such as Aust shares, Intl shares, Property, Alternatives, Fixed income and Cash.

I typically see two distinct ways of managing an asset allocation -

Dynamic/Tactical asset allocation:

While a person’s wealth is split into buckets (asset classes), the amount placed into each bucket will change according to which asset class, they think will outperform in the short/medium term.

Regardless of what research or data observed, this approach is effectively timing the market. It’s taking a view on which asset class may outperform others and doubling down on that exposure. This includes going to cash.

This approach can provide great rewards, if the prediction is right, but can have detrimental effects on the long-term return if wrong.

History has proven that the most astute investors are not able to consistently time the market.

Strategic asset allocation:

Like the dynamic asset allocation, it’s still a bucket style strategy, but rather than adjusting the exposure, the allocation itself does not change. The intelligence comes in the ability to rebalance back to the original strategic asset allocation.

The asset allocation will be established based on the objectives of the portfolio, whether it be biased towards cash flow generation, capital growth, or a combination of the two.

Once the portfolio is established and funds are invested, the performance of each asset class is consistently monitored, and as one asset class outperforms the master allocation will become out of balance.?This signals a rebalance is necessary.

Typically, profits are taken from the outperforming asset class and reinvested into the underperforming asset class.

Portfolio rebalancing can also occur within a specific asset class. For example, within Australian equities a particular company, or sector (such as financials), may outperform others. Our advisers will review the situation, including available research, to determine whether profits should be taken.

This could provide an opportunity for proceeds to be reinvested into other Australian equities, or asset classes that require topping up.

The key benefits of this strategy are –

-??????Long-term performance achieved without having to make precise predictions of asset class performance.

-??????Long-term performance is driven by stability and ‘time in the market’ as opposed to ‘timing the market’.

-??????The asset allocation will drive investment decisions. By following a disciplined rebalance approach, we are able to achieve the strategy of selling high and buying low.

Discipline is the key to success in managing a strategic asset allocation. It requires the ability to ‘buy’ during volatile times into quality investments that others may be selling due to fear, not fundamentals.

It also involves potentially selling at times when others might still be buying. While it would be nice to consistently ‘buy’ at the bottom and ‘sell’ at the top, we all know that is not possible.

No one single investment strategy is fail safe. They all have pros and cons with consideration always given to a client’s circumstances. It may be appropriate for a combination of strategies. For example:

-??????A family operates a successful business that is experiencing capital growth and distributing strong cash flow.

-??????A large proportion of their wealth is tied up in the business and the family wants to establish a passive investment strategy to sit alongside, in case market conditions impact business performance.

-??????The family already hold significant property exposure, owning the industrial properties their business operates from.

-??????They are debt free with significant capacity to borrow for investment.

Potential strategy –

-??????Create a diversified investment strategy, potentially in a family trust across all asset classes to achieve a balanced approach to capital growth and cash flow.

-??????Consider borrowing to invest further, focusing on growth assets, but leaning on the cash flow provided by the portfolio to assist in funding interest. The benefit here is the additional exposure borrowing provides to enhance long-term returns.

-??????The investments chosen would be 90% directly owned. Important because:

o??Provides greater control, flexibility, and transparency

o??Reduces third party management, thus protecting the goals and interests of the family

o??Cash flow becomes more reliable and predictable

o??The family always remains in the driver’s seat around investment decisions

-??????Short term capital loss could occur, but that is ok if loan interest is still funded. Never be a forced seller!

-??????Additional wholesale property exposure may still be applicable in alternative (non-industrial) sectors, such as office, hotels, agriculture, convenience etc (these are not opportunities afforded to retail ‘platform’ investors).

-??????A self-managed super fund (SMSF) would be established, if not already. Contribution strategies may be considered, given the tax rate on super earnings is 15% during the accumulation phase. Personal assets can also be sold into the fund over time, releasing cash out for specific purposes, such as debt reduction.?

Target outcome –

-??????The family can re-direct business profits into a potentially lower risk, passive wealth creation strategy.

-??????The strategy is bespoke, as there are no ‘model portfolios’ or ‘platforms’ in the picture, therefore; it’s been designed specifically for the family in question.

-??????The client remains in control of the investment decisions.

-??????Potentially provides the family ability to grow the business with less fear of things going wrong, as there are now multiple growth strategies at play being, business, property and diversified portfolio(s).

-??????The target long term return for this strategy would be 8-10% per annum, net of fees.

There is a lot to digest in this blog. If you have questions about the content, please email me at [email protected]. More than happy to continue the conversation.

Disclaimer: Any information, financial product or advice provided in this website is general in nature.?It does not take into account your needs, financial situation or objectives.?Past performance is not a reliable indicator of future performance. Before acting on the advice, you should consider whether it is appropriate to you in light of your needs, financial situation and objectives.