SYSTEMATIC APPROACH
TO INVESTING

Asset allocation plays an important role in achieving one’s investment objectives. Learn to distinguish the two broad categories of asset allocation strategies and find out how you can learn to create an asset allocation strategy that works for you.

Before an investor starts on personal investing, he should distinguish between two separate issues:
1) Strategic Asset Allocation
2) Tactical Asset Allocation

Both asset allocations need to be regularly reviewed and rebalanced.

Strategic Asset Allocation

Strategic asset allocation takes a longer term approach and is not likely to be reviewed more than once or twice a year. The investor takes stock of his current position and his targeted position. Regular reviews provide the opportunity for continual stock taking to monitor the progress towards achieving the targeted position, both in absolute dollars and percentage breakdown. The following is a fi ctitious position of an individual in his or her late 20s or early 30s

Tactical Asset Allocation
Tactical asset allocation decisions, on the other hand, are reviewed as regularly as the investor sees fi t in light of his assessment of the investment climate and his available resources – time, expertise and funds. Tactical allocation can apply to all forms of investing – property, precious metals, unit trusts, shares, bank deposits and foreign exchange. The allocation could be part of the strategic allocation or could be separately designated from the strategic allocation.

Tactical asset allocation is an attempt to be there where the action is taking place. Not everybody is comfortable or have the time or expertise to handle the nitty-gritty of investing in the stock markets. Hence, the need for individuals to have the guidance of their financial consultants and fund managers.

Dedicated Equity Portfolio
This article looks at some basics of managing a dedicated equity portfolio – which is taken here to mean a sum of funds reserved for equity investments which include direct shares, Exchange-Traded Funds (ETFs) and unit trusts.

¦ Suffi cient Diversifi cation Notwithstanding periodic arguments against the concept of ‘diversifi cation’, there is the need to have suffi cient and eff ective diversifi cation in one’s investments. Diversifi cation is an attempt to provide safety from making big mistakes and recognising that diff erent investments, both in terms of asset classes and individual investments, do not necessarily move together. Even if the investor’s diversifi cation strategy should fail from time to time, he needs to know what went wrong and take measures to rectify it.

Errors are inevitably made from time to time. The investor may even think he is doing the right thing but if the stock market or individual stock goes signifi cantly against him, it is still eff ectively an error. Hence, there is a need to allow for a margin of error in investing.

¦ Top-down and Bottom-up A top-down approach can be translated into tactical asset allocation decisions. The foremost decision is probably how much to be subjected to risk and how much to hold back from risk. That means, how much to invest and how much not to invest. Moving on, the next decisions would be where to invest – what countries, sectors or industries and individual investments.

This does not necessarily mean an exclusion of a complementary bottom-up approach. One knows only too painfully when global stock markets could be surging ahead while some stocks could still be sinking on poor individual corporate outlook.

Should the investor come across an ‘excellent’ stock and thinks he should have it, individual stock-picking could still fi t into a top-down approach. He could make adjustments to the tactical asset allocation (some investors insist on a straight bottom-up approach, but that is another story).

¦ Look Ahead It is important to look ahead. All other investors – any other investor for that matter, are just other investors. They can be fund managers, high net-worth investors or punters. Some or all of these ‘other’ investors could be competing with one for a particular stock that one wants to buy or sell.

¦ Concerns Over Cost The issue of cost has certainly been controversial. What is written below could be adding on to the controversy. The writer prefers to look at the big issue.

When one purchases or rents out a property, one generally does not decide based on the amount of agency fees. When one purchases or sells stocks, the decisions should, once again, generally not be made based only on brokerage fees. That, paradoxically, also applies if one were to decide on a fund manager, based only on fees, or to suggest that the fund manager does not charge management fees except for other fee arrangements for the service, which have been made at the outset.

The decision should be easy enough – sack the property agent, the broker or the fund manager if one is not happy with their services.

Think Long-term

As far as fundamental-based investing is concerned, the investor should consider investing over the long-term if he does not think that stock markets are necessarily equated to the race-track. (This article does not make reference to non-fundamental-based investing). The investor should not be overly worried by day to-day price fl uctuations. He neither decides on the business decisions of the company nor the dividend payout. The investor is only holding shares in the listed company and does not control how the share price moves from day to day. In fundamental-based investing, the investor can separate between the following:

1) Core holdings
2) Peripheral holdings

‘Core holdings’ are investments which the investor is likely to hold for a longer period. The investor could still dispose off his entire position or trim his position should he need to, in the event that the price has run ahead of the company’s medium term fundamentals or in the event the investor needs to adjust his tactical asset allocation.

‘Peripheral holdings’ could still be taken based on fundamental analysis but could be set apart for trading opportunities.