Building the perfect investment portfolio

In the midst of a downturn, it is hard to see where the best options will emerge to re-grow your wealth. What then would be your perfect portfolio? JAMES DUNN tracks down the best choices.

By James Dunn

In the midst of a downturn, it is hard to see where the best options will emerge to re-grow your wealth. What then would be your perfect portfolio?

With the sharemarket down 50% and volatility at record levels, a buyer’s strike in property, and the Government’s bank deposit guarantee offering temporary safety, the question of “where to invest?” has been replaced by “why invest anywhere but where I won’t lose capital?”

But investors need to lift their eyes from the wreckage of the markets, take a deep breath and a five-year view, and invest to start the process of regrowing wealth.

SmartCompany asked several market watchers where they would invest $100,000, on a five-year view. While many entrepreneurs will have plenty more stashed away – and some might have a bit less given the current climate – this hypothetical portfolio should give all investors a guide to the opportunities that exist in this volatile market.

The idea was to focus on asset classes that are oversold, and poised for rebound – while being prudently aware of the possibility of further downturn.

Craig James, chief economist at CommSec, says pockets of the property market are becoming attractive – he says commercial property is holding up nicely, as well as residential property in high population growth areas of Western Australia, south-east Queensland and coastal Victoria – but if constrained to $100,000, he would stick to the sharemarket.

Bargain hunting

“With shares the cheapest they’ve been on price/earnings (P/E) ratio grounds for 28 years, I think you would be well-served by placing $80,000 in selected stocks and about $20,000 in cash,” James says.

“The major banks are paying you dividend yields of 10% with franking credits, so they would have to be candidates. Also, I think the outlook for retailing is actually good, as interest rates and petrol prices come down, so stocks such as Harvey Norman, JB Hi-Fi and David Jones make a lot of sense.

“Lastly, I would look at BHP and Rio Tinto. I think the case for global investing is clouded by the volatility of the outlook for the Austraian dollar. With BHP and Rio Tinto, which are heavily exposed to the global economy and particularly Asia, you’re getting that de facto global exposure.”

James would ignore the listed property trusts for the moment, saying he would “want a bit more assurance” that the debt problems that have plagued that market have been fully worked through.

Index fund

Jamie Nemtsas, director of advisory firm Investstone Wealth Management, takes a far simpler view. “For a wealth accumulator, or a wealth rebuilder, I would simply use the Vanguard High Yield Australian Shares Fund. With $100,000, we would qualify for the wholesale fund, so it will cost you 0.4% a year, with no entry or exit fee.”

For that, Nemtsas says you get a variation on an index fund, designed to target the highest-yielding companies. “The fund is looking to pay a grossed-up dividend yield 1% above that of the index. It’s paying you about 7.5% with franking credits at the moment. If you get 7.5% while you wait for the market to get back to its long-term trend, even if it took five years, that’s a pretty good outcome.

“There’s no risk in terms of the fund manager calling it wrong, there’s no risk in terms of the institution behind it, and you’re buying a good spread of investments,” he says. “The index has been cleaned out; the property trusts aren’t in there, the Allcos and MFSs and ABC Learning aren’t in there anymore.”

While the “stock-standard financial planner response” would be to asset-allocate the money, says Nemtsas, the prevailing circumstances justify locking the money in a high-yielding index fund for five years.

“That’s a way to increase your share exposure at the moment, and you’re picking up the highest yields in each sector. When the market crosses its long-term trend again, it’s time to take the money out and put together a diversified portfolio,” he says.

It might sound trite, says Andrew Buchan, financial planning partner at HLB Mann Judd in Brisbane, but it is a good time to put together a balanced portfolio – if it is very carefully selected. Buchan believes the market environment suits direct or actively managed exposures better than indexed. “Quite simply, the days of a rising tide lifting all boats have passed. I think the period that we’re in, and which will be in for quite some time, is more suited to active positions.”

Get the balance right

Buchan recommends a weighting of 30% Australian shares, 20% international shares, 20% fixed interest, 15% alternative assets and 15% cash, to pick up Australian and international equities bargains as the market appears to have reached bottom – whenever that is.

“The stock markets tend to rebound fairly quickly once they establish a bottom. You won’t be able to pick that absolute bottom – no-one can – but as a recovery looks to be on the move, I would look to move some money out of cash and fixed interest, to return the Australian share allocation to 35% to 40% Australian equities, and international shares to 20% to 25%.”

With the $30,000 going into Australian shares, Buchan would concentrate on the high-yielding large-capitalisation stocks. “Just on the yield alone, you can’t go past Australian shares. We’d be focusing on blue-chip stocks, and looking to pick up 5% to 7% yields,” he says.

He would split the $20,000 allocated to international shares between two active, stock-picking managers, Treasury Asia Asset Management (TAAM) and Global Value Investors (GVI). “We advocate a bias to Asia, so we would have $12,000 with TAAM, and we would also place $8000 in GVI because its portfolio is skewed away from the US market.”

Likewise, his $20,000 allocation to fixed interest would be spread evenly between two active managers, the DDH Graham Preferred Income Fund and the QIC Global Fixed Interest Alpha Fund.

For his $15,000 alternative asset exposure – chosen for diversification of returns – Buchan would have $10,000 in the Macquarie Winton Global Alpha Fund, a long-short managed futures fund that operates in the commodities, index, interest rates and foreign exchange markets, and $5000 in gold.

“The Macquarie Winton fund is a ‘black-box’ global futures fund that has given us very strong returns – even in today’s environment it’s giving double-digit returns, plus it has a very low correlation with traditional asset classes, such as Australian shares or international shares. Gold we use as a hedge against inflation – it’s done very well as the US dollar has moved around.”

All that glitters could be gold

To invest in gold, Buchan uses the Gold Bullion Securities, a listed gold-tracker stock on the Australian Securities Exchange, which allows investors to buy securitised ownership of gold, without having to own actual bullion. Each security gives the investor ownership of one-tenth of an ounce of gold bullion; at any time, the price of each security is one-tenth of the Australian dollar gold price.

He would ignore property for the moment. “We’ve always preferred direct property – we’ve very rarely used listed property – and the stage that the market’s at, there’s too much uncertainty around the listed property trusts for us to use them,” Buchan says.

“In the past we have preferred direct property funds – for example, Becton Diversified Property Fund and BlackRock Property for Income fund – but the state that the market’s in, I wouldn’t be rushing to put money in them. Even on a five-year view, I think there’s too much uncertainty surrounding property.”