My asset Allocation

It goes without saying that any investment strategy should incorporate the “golden rule” of diversification. It remains the case that blending equities, fixed interest, property and cash has to be the best strategy for long-term investors who are prepared to take some risk. However, the notion that all equity-based strategies will always outperform cash over the longer-term looks questionable, so the exact makeup of the equity portfolio needs very careful consideration.

The first slug of capital is to stay in cash – 10% is destined for the highest five-year fixed-rate deposit account. Then, I would suggest that a further 10% is invested in National Savings & Investments five-year index-linked savings certificates. The current, 36th, issue provides index-linking plus guaranteed extra interest of 1.25% compound over five years. Based on the current rate of inflation, as defined by the retail prices index, the current gross annual equivalent rate needed for a higher-rate taxpayer would be 7.41%.

I suggest that 50% of the overall portfolio is placed in equity funds. I have picked seven funds, which together provide a good level of geographic diversification and which I believe have the ability to deliver even if the broad equity market measures do not. This is an important point, because we know categorically that if equity markets are flat, funds on the whole will struggle to make gains. Indeed, we have recently looked at four discrete periods over the last six years where the FTSE All-Share index has been flat from point to point, and we were then able to determine how many funds in the UK All Companies and UK Equity Income sectors actually gained at least 5% a year over these periods. The answer was that just eight funds in each of the two sectors were able to meet the challenge over all four flat periods.

The equity portfolio is 12% Schroder UK Alpha Plus, 9% Framlington UK Select Opportunities, 9% Jupiter Income, 6.25% Legg Mason US Equity, 6.25% Artemis European Growth, 3.75% DWS Japan Growth and 3.75% First State Asia Pacific Leaders.

Corporate Bond funds account for 15% of the portfolio, with 5% in Invesco Perpetual Corporate Bond and 10% in New Star High Yield Bond – the latter providing a good proportion of high-yield corporate bond exposure.

The portfolio is rounded off by a 15% weighting in Norwich Property. Although the housing market looks to have reached its peak, I do not believe commercial property prices are on a precipice. Over the past 20 years, the performance from commercial property funds has been 45% less volatile than investing directly in residential property, and at the same time has offered investors a much less stressful way to participate in the property market.

A final thought – there are far too many funds that simply cannot deliver worthwhile future potential. This is not simply a “dig” at those funds that consistently fail to deliver against their benchmarks; it is a reflection of the fact that, in my view, the broad market measures will struggle to make much progress for quite some time, and so therefore represent a flawed starting point. Every equity fund can deliver acceptable returns in a bull market, but there are relatively few that can claim to add value in a flat or falling market.

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