Top tips on how to build a fund and trust portfolio to last

Our guide on how to approach asset allocation, selecting funds and managing your own portfolio. 

The holy grail for any investor is to build a portfolio to last. While this may feel like a daunting task at the outset, spending time at an early stage to articulate your investment objectives and to think about your attitude to risk should pay off in the long run.

“The most important thing is to have a plan, and the second most important thing is to stick to it,” explains Andrew Wilson, chief investment officer at Lockhart Capital Management.

The starting point is to think about the purpose of the money you plan to invest. Do you have a goal in mind? This will influence the type of investments you hold, your time frame and the risks you are willing to take.

“It is good to think about having different pots of money for different things,” says Cazenove Capital’s chief investment officer Caspar Rock.

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For example, you could have an emergency fund, equating to at least three months of living expenses, in case you lose your job; a pot to fund your kids’ university education; alongside another for retirement. Given that each pot will come with its own time horizon and risk profile, Rock suggests separating them out rather than attempting to run them as one pool of money.

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Once you have decided on the purpose of the money and how long you are prepared to invest for, other aspects should naturally fall into place, according to Jon Beckett, podcaster and author of the book New Fund Order. “Everything flows from that: your risk budget, asset allocation and expected return over a period,” he says.

Asset allocation

The next step is to think about asset allocation, deciding much to invest in shares, bonds and so-called alternatives, such as commercial property and infrastructure funds. There are different asset allocation theories out there, so you will need to do your research to decide what feels right for you.

Rathbones’ head of multi-asset David Coombs says three factors should shape your approach to asset allocation: the returns you are looking to make over time, whether you are a natural worrier, and the amount of time you plan to invest for.

“Time is the great leveller when it comes to investing. The longer you have, the more you should have in equities,” Coombs says. “If you are looking at five years or above, then you probably should have at least 75% in equities. If you have got 10 years plus, you should have 100% in equities. However, this is an individual decision. If you are a worrier, those numbers will be too high and you probably need to reduce them somewhat,” he adds.

Coombs’ bias towards equities for long-term investors stems from the low bond yields on offer, which translate to paltry levels of income and real returns over time. While bonds can help to reduce volatility, he suggests this is less important for those taking a long-term view.

“If you are investing for 10 years, volatility is irrelevant. You need to maximise your returns,” he explains.

Within your equity allocation, Coombs suggests thinking carefully about the amount you are prepared to invest outside the UK, and the potential currency risk that comes with that, as well as the split between large, medium and smaller companies. With the latter decision comes liquidity considerations, as large companies are easier to trade in and out of in comparison to smaller companies.

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Each part of the bond market comes with its own set of potential risks and rewards. Government bonds have historically displayed a lower correlation to equity markets. However, even after the sell-off in the bond market during the first quarter of 2021, which caused yields to rise (and prices to fall), they are still low by historic standards – and in some cases remain in negative territory. While higher yields are on offer from investment grade and high-yield bonds, these come with default risk and the potential to correlate with equity markets.

The same can be said of alternatives such as commercial property, infrastructure, private equity and gold, which can be accessed by funds or investment trusts. Each comes with its own risk-return profile, so you will need to do your homework to decide if these asset classes are appropriate for your portfolio.

Selecting funds

Once you have decided on the split of assets, the next step is to think about the types of investments you feel comfortable holding, from direct shares, investment trusts, funds, through to exchange-traded funds (ETFs). You may prefer to opt for a mix of these.

If you are considering active funds, make sure you understand the fund manager’s style and the types of companies they invest in. Also, take a look at their performance track record as far back as possible to see if they have shown consistency, so you aren’t simply buying the current top performer which could soon fall out of favour.

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For those who wish to build their own portfolio of funds rather than buying a ready-made multi-asset portfolio, the million-dollar question is: how many funds should you include?

Peter Lowman, chief investment officer of Investment Quorum, suggests holding a maximum of 20 funds. “These should be split between active managers, exchange-traded funds, investment trusts, and global themes,” he adds.

However, Beckett believes holding between five and 10 funds is a more appropriate range for long-term investors seeking to keep charges down.

There are certainly no hard and fast rules, and much will come down to the types of funds you select and how concentrated the underlying portfolios are.

Ian Brady, chief investment officer of Harpsden Wealth Management, explains: “The number of underlying holdings alters the amount of funds required for diversification. It is the characteristics of the funds and how they interact with each other which is more important, rather than the absolute number of funds.”

Are there any funds that investors can simply buy and forget over time? In Wilson’s opinion, only passive funds sit in this camp, as these should simply follow the market. “Anything active needs to be monitored,” he adds.

Beckett also highlights index funds but suggests that in some cases multi-asset funds can fall into this category.

“In all other respects, you can’t make an assumption that you can simply buy and leave it alone. You need to check whether the manager has changed, has the size of the fund changed dramatically over time? Have there been any changes at the company?” he explained.

From time to time, funds will lag their peers as well as the market. This should create cause for concern if these periods prove to be prolonged or unexpected. Is it clear why the fund manager has underperformed? 

Avoid the urge to tinker

The final consideration is how often you plan to review your investments and rebalance the portfolio back to your ideal asset allocation weights.

While it is important to stay on top of developments that could impact your portfolio, research suggests that investors who review their portfolios most regularly, and trade often, underperform those who don’t. For example, in the 1990s, psychologist Paul Andreassen found that people who received frequent news updates on their investments achieved lower returns on average in comparison to those who received no news. 

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Rock suggests reviewing the portfolio every six months and rebalancing the asset allocation back to original weightings once a year. In his opinion, the best way to do this is by taking profits on the investments that have performed well and recycling the proceeds into those that haven’t but where you see potential.

“One of the great disciplines is to rebalance. If you think 60% in equities and 40% in bonds is right for you and the portfolio has drifted to 65:35, you should rebalance it back to 60:40 once a year. This should mitigate behavioural biases,” he says.

Something that can help to instil this discipline is to read up on behavioural finance principles before you start investing. This should assist you in avoiding the temptation to sell low and buy high, Rock says.

Wilson describes an annual rebalance of your portfolio as “good housekeeping” and notes that behavioural finance highlights the perils of over-analysing. “The human nervous system is built for survival in the wild, not for trading stock markets,” he concluded.