Register For Our Mailing List

Register to receive our free weekly newsletter including editorials.

Home / 82

Building more relevant Australian share portfolios

The Australian equity portfolio management industry is highly competitive. However, the portfolios it delivers can be under-diversified by security and sector, and key product offerings appear undifferentiated to all but the keenest observers. With the exception of some funds focussed on companies outside the largest 100 companies, most managers’ portfolios mirror the capitalisation-weighted S&P/ASX 200 index.

Is this a problem? After all, over the last two decades the returns from professionally-managed Australian share portfolios have been attractive. To the extent that there is a problem, it is fair to say a good deal of responsibility rests with clients and intermediaries rather than investment managers. In this industry products and services respond rapidly to well-articulated and consistent demand but the incentives clients set for managers is a key impediment to innovation.

Clients and their advisers define equity mandates in terms of the S&P/ASX 200 benchmark portfolio, and assess performance relative to the benchmark over short periods. Sometimes management contracts incorporate performance fees which specifically reference these benchmark returns. It is therefore entirely sensible for a manager to reflect their investment insights through a portfolio of securities whose weights are anchored to the security and sector weights of the benchmark.

The resulting portfolios become under-diversified because the benchmark itself is under-diversified. While the index incorporates around 200 securities, its eight largest names represent over half the benchmark capitalisation while two of the ten industry sectors – Financials and Materials - represent over 60% of its capitalisation. A manager who is not attracted to these particular segments of the market, but operates under a benchmark-focussed mandate, can feel constrained in terms of how aggressively they can represent these views in their portfolio. Where the manager would prefer to express a favourable view of these market segments, there is a risk that the portfolio becomes dangerously concentrated.

How might clients and intermediaries reframe mandates to better leverage managers’ investment insights? The starting point is to understand how an investor defines investment success. Is the benchmark index really so important to achieving the client’s goals? Here we consider ways to deliver superior benchmark-relative portfolios as well as identifying some increasingly important alternative goals.

Benchmark-relative approaches and expensive indexing

Super funds and large wealth managers typically conform to the institutional approach of delivering benchmark-focussed Australian equity portfolios to their members and clients. They believe, perhaps implicitly, that their own performance will be assessed relative to the benchmark index or relative to their benchmark-focussed peer group.

These portfolios are often created by allocating broad market mandates to several equity managers, each selected for their capacity to deliver returns in excess of the S&P/ASX 200 index. Given the concentrated nature of the benchmark this approach can be an inefficient and expensive way to capture and deliver the managers’ collective insight.

The source of the inefficiency is most apparent in the super funds’ overall exposure to the larger companies in the market. Rather than directly reflecting a manager’s optimism about a stock’s return prospects, the aggregate exposure to a large-cap company ends up reflecting the managers’ outlook for these stocks plus their different attitudes to benchmark-relative risk management.

In practice, super fund managers can end up trading between themselves in these larger names which is inefficient from a transaction cost, tax and management fee perspective. This is most evident in cases where a position taken by one manager largely offsets the position of another. This inefficiency leads to the somewhat unfair description of multi-manager portfolios as ‘expensive indexing’.

One simple approach to address this is to specify mandates that require managers to operate in market segments where their insights are likely to be most effective. For instance, the 20 largest companies are extensively researched by analysts yet coverage of mid-cap and small-cap names is more limited. A skilful manager who takes a position in these less researched stocks could earn a higher reward for risk.

A super fund that mandates most of its Australian equity managers to replicate the benchmark for the market’s top 20 stocks, while focussing on stock selection for the remainder of the universe, obtains several benefits:

  • Transaction costs, tax leakage and management costs will be reduced in this portfolio design.
  • While the level of return above benchmark may be modestly reduced, relative to the approach based on broad market benchmarks, the profile of the excess returns delivered should be far more stable.
  • Super funds that are genuinely concerned about benchmark concentration in Australian shares have the opportunity to adjust their overall share portfolio without disrupting their underlying managers preferred positioning.

Some SMSFs might be more attracted to managed funds where exposure to larger Australian companies has been excluded. These SMSFs might believe they are as well-placed as the professionals to build a portfolio of large cap stocks while acknowledging they lack the capability to research smaller companies.

Goal-based strategies

There are a growing number of investors who care more about the achievement of their own specific goals rather than sweating on a manager’s short-term performance relative to a benchmark. For these investors the benchmark index merely presents an opportune set of securities rather than a neutral portfolio or a performance hurdle.

Their focus is on the design and management of a portfolio of securities with suitable fundamental and technical characteristics to support their desired outcome. When compared to benchmark-focussed approaches, these tailored portfolios typically have higher exposures to mid- and small-cap stocks and less to the large-caps.

Three differentiated investment outcomes appear to resonate with clients:

  • the delivery of a sustainable income stream (Australian equity income strategies)
  • resilient growth in wealth (resilient equity strategies)
  • high, long-term compound growth in wealth (long-term, long only strategies).

The critical distinction between these goal-based strategies and the benchmark-focussed approach is that managers are responsible for the total risk and return characteristics of their portfolios rather than just excess return and tracking error to benchmark.

Summary

The vast majority of managed funds and mandates in Australian equities deliver broad market portfolios. The future is likely to be different with clients becoming more involved in specifying the segments in which their managers operate and the outcomes they require.

 

Jeff Rogers is Chief Investment Officer at ipac Securities, AMP Capital.

 

  •   2 October 2014
  • 1
  •      
  •   

RELATED ARTICLES

Clime time: Why stocks beat bonds for income investors

Five personal checks on your financial health

How dot plots and tiny triangles shape our investments

banner

Most viewed in recent weeks

The growing debt burden of retiring Australians

More Australians are retiring with larger mortgages and less super. This paper explores how unlocking housing wealth can help ease the nation’s growing retirement cashflow crunch.

Warren Buffett's final lesson

I’ve long seen Buffett as a flawed genius: a great investor though a man with shortcomings. With his final letter to Berkshire shareholders, I reflect on how my views of Buffett have changed and the legacy he leaves.

LICs vs ETFs – which perform best?

With investor sentiment shifting and ETFs surging ahead, we pit Australia’s biggest LICs against their ETF rivals to see which delivers better returns over the short and long term. The results are revealing.

Family trusts: Are they still worth it?

Family trusts remain a core structure for wealth management, but rising ATO scrutiny and complex compliance raise questions about their ongoing value. Are the benefits still worth the administrative burden?

13 ways to save money on your tax - legally

Thoughtful tax planning is a cornerstone of successful investing. This highlights 13 legal ways that you can reduce tax, preserve capital, and enhance long-term wealth across super, property, and shares.

Why it’s time to ditch the retirement journey

Retirement isn’t a clean financial arc. Income shocks, health costs and family pressures hit at random, exposing the limits of age-based planning and the myth of a predictable “retirement journey".

Latest Updates

Weekly Editorial

Welcome to Firstlinks Edition 639 with weekend update

Thank you for the hundreds of responses to our Reader Survey and to maximise the sample size, we’re leaving it open until this Sunday. Here is an overview of the results so far.

  • 27 November 2025
  • 2
Investment strategies

Where to hide in the ‘everything bubble’

It might not be quite an ‘everything bubble’ but there’s froth in many assets, not just US stocks, right now. It might be time to stress test your portfolio and consider assets that could offer you shelter if trouble is coming.

Investment strategies

The ultimate investing hack: dividend growth stocks

Investors often fall prey to ‘amygdala hijacks,’ letting emotion trump reason. By focusing on dividend-growth with stocks instead of volatile prices, you can steady your mindset and let compounding do the work. 

Investment strategies

CBA or global banks?

CBA’s recent pullback highlights single-stock risk. Global banks trade at lower P/Es with rising earnings and dividends, offering investors both income potential and long-term value beyond the local market.

Investment strategies

Global dividends rising, but Australia lags

Global dividend growth surged in the third quarter, with median growth of almost 6%. Australia was a notable exception as dividends fell, thanks to flagging mining company payouts.

Economy

I called inflation's rise and fall and here's what's next

In 2020, I warned that surging US money supply growth would spark inflation. By early 2023, I said US money supply was dropping dramatically and that meant inflation would decline. Here's what happens next.

Superannuation

Are excessive super funds giving Australia “Dutch Disease”?

The irony is profound: a system designed to secure Australians’ futures may be systematically dismantling the economic diversity necessary for long-term prosperity.

Investment strategies

Could your children pass the inheritance ‘stress test’?

You devote years of your life working, saving and investing, striving to build a legacy that will outlive you. Before any wealth moves to the next generation, here are six questions every parent should ask themselves.

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.