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3 July 2024
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It is well recognised that avoiding large losses is a key element in building wealth. The focus on capital preservation is warranted as heavy losses require very high rates of return to restore the original capital. For example, a 100% gain is required to recoup a 50% loss.
Exhibit 1 shows the annual returns of each of the four major asset classes over a 40-year period. The asset classes are arranged in descending order of return so that the best performing asset class is at the top and the poorest performing asset class is at the bottom. It is clear from the ‘gameboard’ that no single asset class either outperforms or underperforms consistently. The largest recorded annual fall in the 40-year period was property with 55.3%.
Diversifying or spreading investments across multiple asset classes reduces an investment portfolio's overall risk. This is because losses made in one asset class can be offset by gains in others. The benefits of diversification can be seen in Exhibit 2. It illustrates how a diversified multi-asset portfolio (60% growth assets) has performed compared to individual asset classes in the same 40-year period. In 34 years, the diversified portfolio has achieved a return in the top 3 asset classes and in only six periods, the portfolio has produced a return in the second-last ranking asset class. The diversified portfolio is neither the best- nor, more importantly, the worst-performing investment in any given year. The risk of a large loss to capital has been significantly reduced and the overall return is less volatile.
Peter Gee is Research Products Manager with Morningstar Australasia. Information provided is for general information only, and individuals should seek personal advice before making investment decisions. The objectives of any individual have not been considered in this article.
Sound intellectually based diversification (within and across asset classes) is the basis of a solid portfolio. Unfortunately most advisers have neither an understanding of such a methodology, or the necessary tools to determine if their portfolios are sensibly diversified. This leads to over diversification (and lowest common denominator performance) which partly explains the industry adoption of index investing as strategy .
The data is ranking (one to four, then one to five) so no scale needed .
What's the scale in the exhibits? by not having a scale on the charts he diminishes some of his own argument
At its core, successful investing is simple, but we have a knack of making it look complex. Here are five basic lessons that demonstrate key aspects of investing.
As inflation is likely to remain stubbornly elevated, the correlation between bonds and equities could remain high, reducing diversification within portfolios. A gold allocation may help to better protect your investments.
Harry Markowitz said that “diversification is the only free lunch in investing” as holding a broader range of assets can result in better returns without assuming more risk. This has become accepted wisdom - but it isn't true.
Two commonly asked questions are: 'How much do I need to retire' and 'How much can I afford to spend in retirement'? This is a guide to help you come up with your own numbers to suit your goals and needs.
There seems to be more confusion than clarity about the mechanics of how the new $3 million super tax is supposed to work. Here is an attempt to answer some of the questions from my previous work on the issue.
Washington H. Soul Pattinson is an ASX top 50 stock with one of the best investment track records this country has seen. Yet, most Australians haven’t heard of it, and the company seems to prefer it that way.
We are often quoted life expectancy at birth but what matters most is how long we should live as we grow older. It is surprising how short this can be for people born last century, so make the most of it.
A new report suggests Australian housing is twice as expensive as that of the US and UK on a price-to-income basis. It also reveals that it’s cheaper to live in New York than most of our capital cities.
Here are 10 rules for staying happy and sharp as we age, including socialise a lot, never retire, learn a demanding skill, practice gratitude, play video games (specific ones), and be sure to reminisce.
The best way to lose money in markets is to chase the latest stock fad. Conversely, the best way to build wealth is by pursuing a timeless investment strategy that won’t be swayed by short-term market gyrations.
Australian consumers have held up remarkably well amid rising interest rates and inflation. Yet, there are increasing signs that this is turning, and the weakness in consumer spending may last years, not months.
The nine lessons include there is always a cycle, the crowd gets it wrong at extremes, what you pay for an investment matters a lot, markets don’t learn, and you need to know yourself to be a good investor.
It's that time of year when investors sell underperforming stocks at a loss to offset capital gains from profitable investments. This tax-loss selling is creating opportunities in three quality ASX stocks.
Across the globe, leaders are concerned about the fallout from declining birth rates and shrinking populations. Australia, though attractive to migrants, mirrors global birth rate declines, and faces its own challenges.
Australians are paying almost two billion dollars in credit and debit card fees each year and the RBA wil now probe the whole payment system. What changes are needed to ensure the system is fair and transparent?
Many Australians neglect key retirement planning tools. Investment bonds are increasingly valuable as they facilitate intergenerational wealth transfer and offer strategic tax advantages, thereby enhancing financial security.