Clients often ask our wealth advisors for stock recommendations, and we have a simple answer to that seemingly complicated question: We don't engage in stock picking.
We understand why clients wonder about this approach, given its popularity in the financial media, but we don't believe that stock picking and attempts to "beat the market" represent effective investment guidance.
However, because asset classes around the world don't behave consistently or predictably, your personal financial advisor can assist you in combining them in diversified, well-balanced strategies to eliminate much of this randomness. Here's how it works.
This chart illustrates the annual performance of major asset classes in the U.S., international and emerging markets across a 15-year period. The top chart ranks annual returns from highest to lowest, using colors that correspond to each asset class. The bottom chart illustrates annual performance by asset class.
As you can see, in both U.S. and international markets, asset class performance shows very little predictability from year to year. Analysis of this annual data reveals no obvious patterns in returns that an investor could exploit for excess profits -- a fact that strengthens the case for broad diversification across multiple asset classes.
Diversification is Key to Wealth Management Strategies
Portfolios should reflect investors' diverse financial goals, time horizons, and risk preferences. There may be no such thing as the "perfect" portfolio, but many investors find that the most sensible approach incorporates diversification across multiple sources of risk and return.
This chart illustrates how model portfolios along the risk/return spectrum might be constructed to capture the equity, size, and value risk premiums in global markets. To make it easier to understand, the relative proportion invested in various equities is fixed; changes across the model portfolios are based on diversifying allocations across a range of different equity asset classes.
As you can see, investing across multiple asset classes within the equity portion of a balanced portfolio leads to greater diversification.
Asset Management Solutions: Global Diversification
As you've seen, asset class returns vary considerably from year to year, so past returns offer very little insight into future performance. Fortunately, by combining multiple asset classes, you can minimize volatility associated with this random behavior. Global diversification acts to mitigate the effect of a single asset class or market.
The model portfolios in the above chart illustrate how structured portfolios offer a reliable method of capturing the returns associated with multiple measures of risk across the global capital markets. The top chart ranks the year-to-year returns of the model portfolios from highest to lowest, using corresponding colors. The lower chart illustrates historical annual performance over a fifteen-year period; columns on the far-right showing annual returns and standard deviations.
You'll notice that the colors are now dispersed in a uniform, consistent way, with the more diversified model portfolios showing better performance in most one-year time periods. This example clearly shows how markets tend to reward investors for the risks they bear, with riskier strategies generally providing higher expected returns -- and serving as compelling evidence for the value of global diversification.