You’ve got your Investment Strategy, but what about your Investment Philosophy?

Most investors are aware of the importance of a sound investment strategy, allocating their investments across a range of asset classes, proportionate to the risk they’re willing to take.

For some, that means a high percentage of shares and property; for others, it means an even allocation between bonds, cash, property, shares and alternatives.

Setting these parameters is the cornerstone of portfolio construction and good financial advice.

But what about within these asset classes? You’ve got your set allocation of Australian shares, but what shares should you buy with these funds?

This is where the much less considered investment philosophy comes in, and it is the below questions that play a big part in the overall construction and performance of a portfolio.

Active vs Passive

Most asset classes have an index, a basket of investments that represent the overall market within the asset class. For example, the top 300 companies listed on the Australian Stock Exchange (ASX) are often used as the proxy for the overall Australian share market.

Passive investments seek to replicate an index by buying every asset proportionate to its size within the respective index. This is done not just in Australian shares but across almost all asset classes including, property, international shares, and fixed interest bonds.

Active investment strategies aim to carefully select investments within a specific asset class. These portfolios are built with the intention of either outperforming the market; performing well at different times compared to the market or delivering similar returns with less volatility. The assets these investment managers pick will often have characteristics that investor is seeking, for instance, high growth rate, cheap valuation relative to the industry or high yields. These biases are referred to as styles.

Different Styles

The philosophy of an active investment manager will shape their portfolios, this is particularly relevant for shares. Growth investors seek companies with a high rate of revenue growth, even if these companies are not particularly profitable. On the other side of the coin, value investors will seek companies whose earnings are not fully appreciated by the market, meaning the share price is low compared to the future earnings capacity.

There are a range of different styles and understanding your preferences can help guide your investment decisions or help you avoid certain investments that do not align with your philosophy. Someone with a disciplined value style is unlikely to be attracted to chasing some hot new opportunity in a trendy sector! This is often where investors without a strong philosophy get caught out, chasing winners in investments they may not understand.

Investment Structure

The way you build a portfolio will also depend on your preferred structure of the investment. Are they directly held, or do you want to use managed accounts or pooled investment structures. For many, items such as tax structure are a big consideration of how investment should be held.

Another important consideration is liquidity, especially within assets classes such as property. Whether an investor wants to have their property allocation in physical property where prices are more stable but there is very little liquidity or in listed property where liquidity is much higher, but so too are price fluctuations.

All these factors are important considerations when developing an investment philosophy and determining which approach is best suited to you and your needs. Once determining what approach works best for you, you can be more disciplined in the management of your portfolio and keeping its allocations in line with your long-term objectives. Whilst it’s often an afterthought compared to the broader strategy; a strong investment philosophy can be just as important in determining the success of your portfolio.

FOR MORE INFORMATION

If you would like to learn more about the topics discussed in this article, please contact your local RSM office.

Note: past performance is not an indicator of future results.

This article has been prepared by RSM Financial Services Australia Pty Ltd ABN 22 009 176 354, AFS Licence No. 238282.

As everyone's circumstances are different and this article doesn't take into account your personal situation, it is important that you consider the above in light of your financial situation, needs and objectives, and seek financial advice before implementing a strategy.

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