Should you be spending less on managing your investment portfolio?

I was never a mechanically-minded kid.

At the start of year 9 in school, all students were required to choose from a list of elective classes.  The options were woodwork, metalwork or typing. Every other boy in my year 9 class chose woodwork or metalwork. I chose typing. (Something that sure came in handy with the advent of word processors and computers not long after!)

Despite that aversion to the manual arts, I do remember (quite randomly!) being taught how to remove a distributor cap and clean the spark plugs by a teacher who owned an old VW Kombi van. And it brings to mind the fact that even for those who are mechanically-minded and know how to do much more than clean spark plugs, working under the hood of a vehicle these days is not so simple.

In the same way that it’s no longer viable for a backyard mechanic to work under the hood of a modern luxury vehicle, it’s not realistic for the average financial advisor to spend time building share portfolios for their clients.

So it strikes me as strange that in the world of investment, where things have also changed so dramatically over the years, that some financial advisers are still spending time trying to build share portfolios for their clients. It’s akin to a backyard mechanic working on a 2018 luxury vehicle.

The reality of managing investment portfolios

Teams of investment professionals who spend their entire workday managing investment portfolios have an incredibly hard time beating the market. If you want proof, take a moment to review the SPIVA® Australia Scorecard from Standard and Poors. It makes for troubling reading.

This is why I’m not sure why even the most knowledgeable and well-intentioned financial adviser would try to custom-build direct share portfolios. The odds are stacked against them. And thus stacked against their clients.

Don’t get me wrong. Having a portfolio of direct shares feels good. There is a sense of comfort that comes from owning shares with which we are familiar – the banks, Wesfarmers, BHP.

But that is just a phenomenon known as familiarity bias and it plays no part in the investment outcome.

Building custom portfolios with direct shares when you are competing with the most sophisticated trading and investment management techniques used by PhD qualified investment professionals, who do nothing else except manage portfolios, well, it just doesn’t make sense.

You end up with a less diversified portfolio which is consequently higher in risk. To make matters worse, it requires significantly more ongoing management by you and/or your adviser. That’s why this approach is expensive to provide to clients.

Let’s summarise that: Having a portfolio of direct shares means paying a higher fee for a higher risk portfolio with less reliable investment outcomes. It’s just nuts!

There’s no benefit to be gained in trying to outguess the market

Financial planners and advisers have enough to do staying current with superannuation legislation and changes in tax and pension rules, not to mention helping their clients build and preserve wealth through effective cash flow planning, debt management, insurance protection and estate planning.

Highly sophisticated investment management techniques have moved way beyond the capabilities of even the most technically-trained financial adviser.

After more than 60 years of modern portfolio theory, we know what drives returns over the long term. And we know there’s little benefit to be gained by trying to outguess the market.

This is not a controversial statement.

The problem is much of the financial services industry has a vested interest in making it complicated and adding multiple layers of fees to the process in order to sell products that people don’t need.

A better approach to investment portfolios

All of the above is why we offer a single, globally diversified solution with built-in rebalancing. One that cost-effectively targets higher expected returns for a given level of risk.

These world allocation vehicles are designed for us by Dimensional Fund Advisors, an institutional manager whose approach uses Nobel Prize-winning research based on the information in market prices.

On the surface, these are sleek and simple solutions. Underneath, there are thousands of stocks and bonds invested in multiple equity and fixed interest strategies that systematically identify differences in expected returns among securities. The focus is on reducing turnover, keeping costs low and rebalancing each day to keep the funds on target.

This method is the equivalent of a compact, extremely reliable and highly fuel-efficient hybrid vehicle with computerised systems.

In real terms, what this means for our client is that they’ll get to where they want to go at low cost and without taking any more risk than is necessary. What do we do with all the time saved on complicated rebalancing, picking stocks and market timing? We spend it instead on understanding our clients’ lives and ensuring the financial strategies we build for them reflect the lifestyles they wish to live. Both now and in the future. 

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