It’s a truth universally acknowledged that diversifying your portfolio among different asset classes is a No Brainer.
Sure, just as with brushing your teeth or the merits of jogging, you’ll find a few backwoods men howling at the wisdom of asset allocation. But the general consensus is you can likely reduce the volatility and thus the uncertainty of the returns from your portfolio by spreading your bets between different kinds of investments, without reducing returns too badly.
In the old days, such financial black magic would have been done by a pension fund manager or a kindly broker, who would have charged you heavily for the privilege. These days though many investors are managing at least a portion of their funds for themselves. For too many of us, that means big equity portfolios and not a lot else.
I’ve been looking to address this problem in my own investing pot. While I’ve currently got a fair amount of cash (about 25 per cent of the total fund value, earning around 5% a year), elsewhere I’ve ridden the bull market in shares since 2004 at the expense of wider asset allocation. With markets looking shakier, I don’t want to push my luck.
Buying ETFs gives you quick, broadly spread exposure
From my research, I believe Exchange Traded Funds (ETFs) offer the potential for a rough-and-ready overhaul of my asset allocation strategy. Below I’ll go through the ones I’m looking at and in some cases have already invested in. You can decide for yourself if they have a place in your own portfolio.
Today’s ETFs offer you instant diversification benefits from assets as diverse as:
- Government
- Corporate bonds
- Commodities like gold, cotton and timber
- Foreign stock markets
- Commercial property.
ETFs are cheap – you can buy them through an online share broker in the usual way you’d buy any share, with no initial charge beyond the dealing fee. They simply track indexes so the annual charges are low, too. With an ETF you’ll never outperform any asset market, but you won’t underperform it by more than the annual charge either.
Now, I’m not claiming that ETFs are a perfect solution for all asset allocation issues. For instance, UK investors sometimes buy various Gilts (the age-old name for UK government bonds) to create timed income streams to meet future liabilities.
Buying a Gilt fund won’t do that – instead you’re simply tracking an index of various gilts, as determined by the ETF provider. It’s a one-time buy-and-forget strategy. But for my part, that’s all I currently need Gilt exposure to do. Same deal with timber and oil. I don’t want to become an expert on the cotton crop or the diseases afflicting cocoa beans, and I don’t want to be trading into some in spring and out of others come December. I just want my portfolio to have exposure to the results of those who do, primarily to diversify my equity portfolio.
ETFs are perfect for such quick diversification in my opinion, especially given their low charges, so let’s consider a few to get started. (I look at using exchange-traded funds to get direct exposure to commodities in a different post about these so-called ETCs.)
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