Taking a holistic view of your portfolio Regular investment insights from John Cotter, Vice President at Barclays Stockbrokers. In this edition, John discusses Taking a holistic view of your portfolio
Cotter's Corner - Taking a holistic view of your portfolio

Taking a Holistic view of your portfolio

Building a portfolio that is right for you is what being a successful self directed investor is all about. John explains how taking a holistic view is one of his keys to success.

Published 7 January 2010

Although your risk profile is a key element in determining the make up of your portfolio, I also find, in some circumstances, that over-focusing on the risk of each individual investment too early in the process can wrongly restrict your investment approach when it comes to achieving the overall objective i.e. a portfolio of investments that is right for you.

Let us assume that each investment has an unofficial "risk rating", which at least at the extremes, is easy to determine. If this is on a scale of 1 to 10, a rating of 1 being the lowest risk and 10 the highest, it does not take a financial genius to work out that cash is low risk and should be rated 1 and a CFD (Contracts For Difference) on an individual share would rate 10. However I do not believe the risk ratings of the individual investments should be the initial priority.

The Journey

To begin with, the main point of focus should be the blend and the balance of the overall portfolio. I would encourage clients therefore to take a less fragmented view and adopt a holistic approach to their investments. If for instance you are planning a road trip from Liverpool to London you should not start with a roadmap of Liverpool - there are simply too many roads, too many potential wrong turnings and too many cul-de-sacs. You should start with a large map of England and take the motorways until you get to the M25 and then you get your A to Z of London out of the glove box! In the same way, you should review your own risk appetite and the current balance of your portfolio before you begin to assess the suitability of each individual investment.

A key decision only you can make is where on the "risk ladder" you currently sit. If it is on rung 1 then that is fine by me, providing you appreciate the consequences of that decision. Anyone on that rating would have to be totally focussed on the amount of money they have and not the future value of it - in other words, the return of their capital not a return on it. This may be right for some but not for all. Equally if someone puts themselves on the top rung, as long as they can sleep at night, that is fine with me.

For most of the clients I speak to, a risk rating somewhere between 4 and 8 is far more common, and in most cases, more sensible if it is achieved via a mix of asset classes and investments. However there is often a disconnect between their assessment of their risk appetite and the actual risk position of their portfolio. This can happen for many reasons. It could be that the portfolio was built up in a piecemeal fashion over many years or it could be a lack of understanding or knowledge etc.

The whole jigsaw

The devil is always in the detail but I find it is best to keep away initially from individual assessments of the investments until you have a more holistic view. Similar to a jigsaw, it may be the individual pieces that make up the whole, but it is the overall picture that has to be the starting point and always remember as a self-directed investor it is your money, your jigsaw, your picture, your portfolio!

Determining the starting position on the risk ladder that is right for you is a great way to begin. In Investment ViewPoint you will find that we discuss this in detail when we pose the question "What is your investment approach?” Here we divide investor types into three broad categories based on the "risk ratio" that most closely fits their position namely, Cautious, Moderate and Opportunistic.

Although the focus should initially be on the "bigger picture", it has been assembled, as with a jigsaw, piece by piece and therefore a risk assessment of the individual pieces also has to be completed. This is where you have to be careful and force yourself, in effect, to be “overly simplistic” - if you attempt to cover every angle you will simply obscure the overall view.

I would be the first to admit that some of the assumptions I have used to prepare the “risk table” below verge on the naive at times but nevertheless I believe it has its merits as a starting point.

My own personal ratings would be; (1 = lowest risk, 10 = highest risk)

1. Cash and Gilts

2. Gilt Funds, Corporate Bonds and 100% capital-protected structured products

3. Corporate Bond Funds, structured products and Absolute Return Funds

4. Unit Trusts, OEICs and Exchange Traded Funds (ETFs)

5. Large Cap Shares (market cap over £1.8bil)

6. Mid Cap Shares (market cap £240mil to £1.8bil), Investment Trusts and REITS

7. ETCs

8. Small Cap shares (less than £240mil market cap)

9. Covered warrants, Turbos and leveraged ETFs/ ETCs

10. CFDs, FST and FX

As I have stated already, but it is a caveat worth repeating, I am the first person to acknowledge the weaknesses in my own ratings table. For instance, it is technically wrong to include all unit trusts under one risk rating as a Fund with a low beta can be a world of risk away from those with a high beta. Are ETFs less risky than Funds? One tracks, the other is managed, but does management increase risk or reduce it? The questions I could pose would certainly outnumber the products available but I have deliberately kept away from the detail. This is a broad brush investment map and is not even going to show up the A roads! What it loses in detail however, I believe it gains in clarity.

What concerns me is that many clients who can give me chapter and verse on the investment attractions of a particular AIM stock, have not given their overall risk rating a second thought. A simple example to illustrate - somebody who assesses their overall risk rating as an 8 but who has an equal split of liquid capital in individual Gilts, corporate bond funds and large cap stocks. They rate themselves an 8 and yet, according to my calculations they have a portfolio with an overall rating of 3, a cautious investor. I am not suggesting that they should immediately sell any of their investments but knowing the mismatch between their risk appetite and their present portfolio will at least act as a signpost for the direction of future changes.

Your risk palate

Another area of concern would be when clients do have an appreciation of their overall risk appetite and indeed of the risk rating of their individual investments but because of this they back away from investments that do not fit on an individual basis. Sometimes this can be opportunistic investors who do not consider investments with a lower risk rating or perhaps more often, cautious investors who rule out higher-risk options. This can needlessly limit their choice, to the detriment of performance. It should not be a case of "one size fits all". They should focus on the overall mix rather than the individual risk ratings of each investment. It is a bit like making a curry - whether you prefer them mild or red hot, it is good to bear in mind that the basic ingredients remain the same, often the only difference is the amount of spice added to the dish. So do not be put off by individual options that would normally be outside your target area, just make sure that the overall blend suits your risk palate.

Good luck with your investing!

Page last updated 7 January 2010

Barclays offers wealth and investment management products and services to its clients through Barclays Bank PLC and its subsidiary companies. Barclays Stockbrokers is a trading name of Barclays Bank PLC (Registered No. 1026167 Registered VAT No. 243 8522 62) which is a member of the London Stock Exchange and ISDX. Barclays Bank PLC is registered in England and authorised by the Prudential Regulation Authority and regulated by the Financial Conduct Authority and the Prudential Regulation Authority. The registered address is 1 Churchill Place, London E14 5HP.

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