Register For Our Mailing List

Register to receive our free weekly newsletter including editorials.

Home / 505

Passive investing has risks too

In 2022, investors were hit by a double whammy of both equities and bonds suffering similar levels of declines in prices. The perceived wisdom is that this is not supposed to happen. Bonds and equities are meant to be uncorrelated, so that when one struggles the other does well.

The reality is that bonds and equities fall at the same time more often than expected. In fact, a look over history shows the period where equities and bonds were completely uncorrelated is more of an anomaly, particularly in periods of rising inflation.

This means the traditional diversification strategy of 60:40, with 60% in equities and 40% in bonds, is not the silver bullet some may think it is.

Diversification matters in many ways

Now this doesn’t mean you should rip up your investment approach and do something completely different. But it would be foolhardy not to try and learn from recent experience and be more open-minded in your view of what diversification means. It’s not just about different asset classes, although that obviously helps, it’s also about broadening your horizons for different styles, different regions and even combining active and passive strategies.

For many, the active versus passive debate can be divisive: you’re either one or the other. But both approaches have their strengths and weaknesses, which suggests that perhaps the answer is to create a blended approach.

For example, 2018-2021 was a tough period for value-oriented managers but 2022 showed the ugly side of a purely passive portfolio. Everyone agrees that timing markets is a fools' errand, but what if you leave a passive ‘core’ in place and supplement it with a valuation-focused active manager? This can help offset the Achilles heel of a purely passive approach of being fully exposed to the whole market as it becomes over-priced.

Importantly you can add as many managers as you like to your portfolio, active or passive, value or growth or something more contrarian. But it’s no use ‘diversifying’ across 10, 20 or 30 managers if they are all doing the same thing, with the same focus and holding the same stocks in their portfolios.

The key is to choose managers that have a compass that they stick to, staying true to their investment philosophy and process no matter what the market cycle throws at them. It may be painful at times, but you’ll know what you’re getting over the long-term, and each one can act as a diversifier for your overall portfolio because they are each doing something different.

… and valuation matters, too

In the latest 'Everything Bubble', growth stocks were the darlings of the markets, helped along by the money being pumped into the system by central banks in the wake of the GFC and the Covid-19 pandemic.

But now it appears that bubble is bursting, and more people are beginning to recognise that valuations matter.

Focusing on the broad market cycle misses something crucial - the cycle in valuation gaps, which can have just as big an impact on investor returns. Not all assets go up by the same amount during a bubble, and the same is true when that bubble bursts. This can lead to different experiences depending on what type of investment you’re in, whether it's the market darlings, or the unloved, boring businesses.

From a diversification point of view, this means it can be beneficial to build a portfolio from the bottom-up, focusing on fundamentals, rather than starting from a high-level top-down macro viewpoint. At Orbis, asset classes such as equities, bonds, commodities, and hedged equity all compete equally for space in our portfolios. We aim to select investments across asset classes to find those that will combine to offer the most attractive balance of risk and reward. By doing this, we end up with a portfolio that can be very different to the benchmark both on the equity and the bond side.

As contrarian investors we recognise that not everyone has the courage to stand above the parapet and potentially look foolish in the short-term, even when they know the long-term thinking is sound. But as a diversification tool, it can be powerful to have alternate viewpoints in a portfolio.

While it is a cliché, the old adage 'don’t put all your eggs in one basket' still holds true for investing. When you’re constructing a portfolio, the different baskets of risk and return should be truly different and robust enough to deliver a good balance of investment approaches that can weather any environment.

 

Shane Woldendorp, Investment Specialist, Orbis Investments, a sponsor of Firstlinks. This article contains general information at a point in time and not personal financial or investment advice. It should not be used as a guide to invest or trade and does not take into account the specific investment objectives or financial situation of any particular person. The Orbis Funds may take a different view depending on facts and circumstances. For more articles and papers from Orbis, please click here.

 

RELATED ARTICLES

Stars align for fixed income

The far-flung past as prologue

Chris Joye on why stocks and property are set for a poor year

banner

Most viewed in recent weeks

Raising the GST to 15%

Treasurer Jim Chalmers aims to tackle tax reform but faces challenges. Previous reviews struggled due to political sensitivities, highlighting the need for comprehensive and politically feasible change.

7 examples of how the new super tax will be calculated

You've no doubt heard about Division 296. These case studies show what people at various levels above the $3 million threshold might need to pay the ATO, with examples ranging from under $500 to more than $35,000.

The revolt against Baby Boomer wealth

The $3m super tax could be put down to the Government needing money and the wealthy being easy targets. It’s deeper than that though and this looks at the factors behind the policy and why more taxes on the wealthy are coming.

Are franking credits hurting Australia’s economy?

Business investment and per capita GDP have languished over the past decade and the Labor Government is conducting inquiries to find out why. Franking credits should be part of the debate about our stalling economy.

Here's what should replace the $3 million super tax

With Div. 296 looming, is there a smarter way to tax superannuation? This proposes a fairer, income-linked alternative that respects compounding, ensures predictability, and avoids taxing unrealised capital gains. 

The rubbery numbers behind super tax concessions

In selling the super tax, Labor has repeated Treasury claims of there being $50 billion in super tax concessions annually, mostly flowing to high-income earners. This figure is vastly overstated.

Latest Updates

Investment strategies

Trump's US dollar assault is fuelling CBA's rise

Australian-based investors have been perplexed by the steep rise in CBA's share price But it's becoming clear that US funds are buying into our largest bank as a hedge against potential QE and further falls in the US dollar.

Investment strategies

With markets near record highs, here's what you should do with your portfolio

Markets have weathered geopolitical turmoil, hitting near record highs. Investors face tough decisions on valuations, asset concentration, and strategic portfolio rebalancing for risk control and future returns.

Property

Soaring house prices may be locking people into marriages

Soaring house prices are deepening Australia's cost of living crisis - and possibly distorting marriage decisions. New research links unexpected price changes to whether couples separate or silently struggle together.

Investment strategies

Google is facing 'the innovator's dilemma'

Artificial intelligence is forcing Google to rethink search - and its future. As usage shifts and rivals close in, will it adapt in time, or become a cautionary tale of disrupted disruptors?

Investment strategies

Study supports what many suspected about passive investing

The surge in passive investing doesn’t just mirror the market—it shapes it, often amplifying the rise of the largest firms and creating new risks and opportunities. For investors, understanding these effects is essential.

Property

Should we dump stamp duties for land taxes?

Economists have long flagged the idea of swapping property taxes for land taxes for fairness and equity reasons. This looks at why what seems fairer may not deliver the outcomes that we expect.

Investing

Being human means being a bad investor

Many of the behaviours that have made humans such a successful species also make it difficult for us to be good, long-term investors. The key to better decision making is to understand what makes us human and adapt.

Sponsors

Alliances

© 2025 Morningstar, Inc. All rights reserved.

Disclaimer
The data, research and opinions provided here are for information purposes; are not an offer to buy or sell a security; and are not warranted to be correct, complete or accurate. Morningstar, its affiliates, and third-party content providers are not responsible for any investment decisions, damages or losses resulting from, or related to, the data and analyses or their use. To the extent any content is general advice, it has been prepared for clients of Morningstar Australasia Pty Ltd (ABN: 95 090 665 544, AFSL: 240892), without reference to your financial objectives, situation or needs. For more information refer to our Financial Services Guide. You should consider the advice in light of these matters and if applicable, the relevant Product Disclosure Statement before making any decision to invest. Past performance does not necessarily indicate a financial product’s future performance. To obtain advice tailored to your situation, contact a professional financial adviser. Articles are current as at date of publication.
This website contains information and opinions provided by third parties. Inclusion of this information does not necessarily represent Morningstar’s positions, strategies or opinions and should not be considered an endorsement by Morningstar.