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Posted by Brett Gustafson on Jan 11th, 2024

Portfolios with a Purpose – Balancing Act

From the outside looking in, the lifestyle of a portfolio manager typically looks very attractive. This belief stems from the dynamic nature of the role, which includes the benefit of individual financial acumen, the opportunity to shape Canadians’ retirements, educating the public, and, of course, personal financial gains. But beneath the surface lies an unspoken truth – the silent struggle that accompanies the heavy decisions made within clients’ portfolios. While this has always been the case, the recent rise in volatility over the last few years has certainly brought on some additional restless nights amongst the advisor community. From 2010 to 2020 – likely the greatest decade to be an investor – there were minimal disruptions. There were only three days where a balanced portfolio was greater or less than 2% – jump to the last four years, and this number has multiplied by five. While this shocking number of days might feel like an equity index, it is definitely a Canadian-balanced portfolio! The visual representation of the increase in volatility likely mirrors the heightened stress levels experienced by managers, emphasizing the reality that portfolio management is not all sunshine and rainbows.

Canadian investor 60/40 portfolio from 2010 to 2024

While it might be time-consuming, overthinking in portfolio management is not a negative tendency. It proves that you care what kind of impact these decisions will have on your client’s future. But sometimes, there’s too much focus on making every investment decision perfect. Let’s be real; getting it right every time is hard. In the long run, what really matters for your portfolio is the big picture, not just one trade. Of course, being wrong all the time isn’t a smart plan, but the real goal in building a portfolio is to catch a bit of every market move. Long-term success is way more important than beating a peer in just one year.

This is also easier said than done, as portfolio managers will always feel pressure from clients, engulfed in expectations to outperform on both the upside and downside. If you were to underperform the benchmark for two consecutive years, clients might push you to make more bold moves in the portfolio. Balancing these pressures with the goal of long-term success adds a layer of complexity.  

We have discussed in prior editions that the base for portfolio construction is to have a macro view. That macro view can be your own, someone you trust, or a team of professionals you trust. Either way, what you believe will happen in the economic environment is what will shape your overall portfolio. This simplifies your process and allows you to have strong justifications for positioning.

One aspect of the construction process is the understanding of diversification. We are all in agreement that diversification is a good thing (to a point). Let’s take geographic positioning, for example. You might believe the US is headed for a recession, whereas things in Europe have turned the corner (just an example, for our outlook, click here). Why is it that in the 60% of equities of a balanced portfolio, you continue to hold onto US equities? You might reduce your US exposure, but even if you believe the European market is well positioned to outperform the US, you continue to hold some. There could be many justifications, but the main one is… in case you’re wrong. Diversification reduces stress and increases the probability of success. Being diversified is more important to portfolio success than executing the perfect trade. The challenge lies in conveying this to clients rather than proving it solely through the pursuit of a flawless trade.

Looking back to 2006, we can see that there were plenty of opportunities to be wrong or right. But we know that going all in on a trade, statistically, will likely result in too much volatility for most Canadian investors’ comfort level. Investing in a little piece of each and combining them allows for a steady performance streak like the one seen below. This is why you balance your macroeconomic tilts with portfolio diversification.

Index returns from 2006 to 2023

Final Thoughts

It’s also worth noting that the investment landscape is inherently uncertain, and acknowledging this is a key aspect of effective portfolio management. While striving for well-informed portfolio construction, it’s essential to recognize that not all outcomes can be predicted or controlled. Managing risk and adapting to changing market conditions are integral parts of a robust investment strategy.

The balance between careful consideration, strategic thinking, and a focus on long-term goals is crucial in portfolio management. Overthinking can be constructive, but it’s important to avoid getting paralyzed by excessive analysis or succumbing to the illusion of perfect predictions in an unpredictable market. As a result, the blend of macroeconomic tilts and diversification remains a resilient strategy for long-term success for both the portfolio manager and the end client.

Insights with Purpose

At Purpose, we are attempting to change the status quo within the investment industry – mainly the enigmatic standards by which the industry operates. We are an open book when it comes to portfolio design and discussions surrounding our outlook and strategies. We want to make managing portfolios simpler for advisors and act as a sounding board for ideas. We start by running portfolio comparisons between your portfolios and ours. Not to say ours is right and what you are doing is wrong, but to understand the differences and have discussions surrounding the rationales. We aim to keep this discussion going quarterly; this is not a one-and-done service. We want to build our relationships with advisors so that the end client has a satisfactory investment experience.

If you want to know what exposures your portfolio is tilted toward, feel free to reach out to our team. As the great Peter Lynch once said, “Know what you own and why you own it.” 

— Brett Gustafson is a Portfolio Analyst at Purpose Investments

Sources: Charts are sourced to Bloomberg L.P.

The content of this document is for informational purposes only and is not being provided in the context of an offering of any securities described herein, nor is it a recommendation or solicitation to buy, hold, or sell any security. The information is not investment advice, nor is it tailored to the needs or circumstances of any investor. Information contained in this document is not, and under no circumstances is it to be construed as, an offering memorandum, prospectus, advertisement or public offering of securities. No securities commission or similar regulatory authority has reviewed this document, and any representation to the contrary is an offence. Information contained in this document is believed to be accurate and reliable; however, we cannot guarantee that it is complete or current at all times. The information provided is subject to change without notice.

Commissions, trailing commissions, management fees, and expenses all may be associated with investment funds. Please read the prospectus before investing. If the securities are purchased or sold on a stock exchange, you may pay more or receive less than the current net asset value. Investment funds are not guaranteed, their values change frequently, and past performance may not be repeated. Certain statements in this document are forward-looking. Forward-looking statements (“FLS”) are statements that are predictive in nature, depend on or refer to future events or conditions, or that include words such as “may,” “will,” “should,” “could,” “expect,” “anticipate,” “intend,” “plan,” “believe,” “estimate” or other similar expressions. Statements that look forward in time or include anything other than historical information are subject to risks and uncertainties, and actual results, actions or events could differ materially from those set forth in the FLS. FLS are not guarantees of future performance and are, by their nature, based on numerous assumptions. Although the FLS contained in this document are based upon what Purpose Investments and the portfolio manager believe to be reasonable assumptions, Purpose Investments and the portfolio manager cannot assure that actual results will be consistent with these FLS. The reader is cautioned to consider the FLS carefully and not to place undue reliance on the FLS. Unless required by applicable law, it is not undertaken, and specifically disclaimed, that there is any intention or obligation to update or revise FLS, whether as a result of new information, future events or otherwise.

Brett Gustafson

Brett is a Portfolio Analyst at Purpose. He is responsible for relationship management and advisor support and focuses heavily on portfolio analytics for advisors, our own proprietary models, as well as equity research. With over nine years of experience in the investment industry, Brett started his career out as an Investment Advisor at a Canadian independent asset management firm where he cared for several high-net-worth families. Brett graduated from the University of Calgary with a Bachelor of Commerce degree. He is currently pursuing his CFA designation with the goal of becoming a Portfolio Manager.