Broaden horizons: diversifying means moving beyond top 10

Our bigger stocks lagged the market last year, which means you should get some serious diversification into your share portfolio.

Self-managed investors should have a combination of equities, bonds and other investment types to provide growth and income over the long term

Investors in professionally managed superannuation funds, ­especially those with higher exposures to equities, on average achieved returns of 14-20 per cent in 2019.

It was a strong investment year for managed superannuation funds generally and, likewise, should have been for self-managed super fund trustees.

Variances in returns from managed super funds will have depended on a range of factors, including the assets that different superannuation funds were invested in, the investment strat­egies chosen by individual super fund members themselves and, importantly, the level of costs levied by each super fund.

Median returns on balanced fund options (50 per cent equities and 50 per cent fixed income and cash) were about 15 per cent by the close of the year, according to research group SuperRatings.

Those adopting a growth strategy with a higher allocation to shares (70 per cent equities and 30 per cent fixed income and cash) achieved median returns of about 19 per cent.

The returns by individual SMSFs, of course, largely will have come down to the specific asset ­allocation strategy of each fund. Yet, essentially, if you operate an SMSF, your focus should be to at least match the returns of the broader investment community and, specifically, those of the investment managers within the managed super funds sector.

Good diversification, based on establishing an asset allocation plan that incorporates reasonable expectations for risk and returns, is one of the keys to a successful investment strategy.

Time and again, however, Australian Taxation Office data tracking the allocations of SMSFs show many are not well diversified.

Many SMSFs were established solely for the purpose of buying ­assets that can’t be accessed through a managed super fund, such as an unlisted direct commercial or residential property holding.

But, ideally, self-managed investors also should have a combination of equities, bonds and other investment types to provide growth and income over the long term, to have the best chance for investment success.

Specific asset classes will always perform differently from year to year, depending on the market dynamics at play.

In the last year, listed equities and bonds both delivered strong returns, because record low interest rates are continuing to drive capital inflows into higher-yielding assets.

Listed equities delivered high returns in 2019, and a useful returns barometer in the Australian context is the S&P/ASX 300 Index, comprising the largest domestic companies by market capitalisation.

This index replicates the S&P/ASX 200 Index, but also incorporates another 100 of the top listed companies by market capitalisation to provide even broader diversification.

From the start of January 2019 to the end of December, the S&P/ASX 300 rose 20.62 per cent (against 20.26 per cent by the 200 index), with the total value of all the companies in the 300 index gaining more than $350bn to just over $2 trillion.

Having broad exposure to the entire S&P/ASX 300 through an index fund would have achieved returns close to 20 per cent net, after costs. Behind that overall return were some strong gains by several of the largest companies.

In the top 10 listed ranks, for example, the share price of blood products manufacturer CSL rose close to 50 per cent during 2019, reflecting the enormous success of its global operations.

Other strong performers in the top 10 included financial services group Macquarie, diversified industrial Wesfarmers, and telecommunications provider Telstra — each up about 30 per cent.

However, gains in the top tier were not homogenous. Reflecting slower growth and various outcomes from the financial services royal commission, including prosecutions and remediation costs, the major banks recorded lacklustre share price growth returns.

Mining giant BHP lost ground, closing about 3 per cent lower.

So, while the broader 300 index was well higher in 2019, on a consolidated basis the top 10 companies were only up 14 per cent.

Which again shows the true value of diversification, even within asset classes themselves.

Tony Kaye is a senior personal finance writer with Vanguard Investments Australia.

www.vanguard.com.au