A Portfolio Management Service (PMS) may look enticing, but without careful planning, even a well-managed PMS portfolio can fall prey to contagion – the tendency of different assets to move in tandem during market turbulence.
So, how can you construct a truly diversified portfolio within the PMS framework? Let’s look at some factors.
1. Don’t Put All Your Eggs in One Basket
Imagine a portfolio heavily invested in equities. A market downturn could trigger a synchronized decline across all your holdings, leaving you vulnerable.
This is the essence of correlation risk – the tendency of asset classes to move in tandem.
Diversification, the practice of spreading your investments across various asset classes with low or negative correlations, is the key to mitigating this risk.
2. The Art of Asset Allocation
Asset allocation forms the bedrock of a diversified PMS portfolio. It involves strategically distributing your investable capital across asset classes like equities, fixed income (debt), real estate, and commodities.
The optimal allocation depends on your risk tolerance, investment horizon, and financial goals. Here are some key considerations:
Risk Tolerance: Conservative investors may favour a higher allocation to fixed income, while aggressive investors might allocate more to equities.
Investment Horizon: Long-term investors can tolerate higher equity exposure for potential capital appreciation.
Financial Goals: Align asset allocation with your goals. Retirement planning might necessitate a more conservative approach than wealth creation for a young investor.
3. Exploring Alternative Investments
The PMS universe extends beyond traditional asset classes. Alternative investments like private equity, hedge funds, and structured products can offer diversification benefits by exhibiting a low correlation with conventional asset classes.
However, these investments generally come with higher risks and require careful due diligence.
4. Risk Management Techniques
Building a diversified portfolio through asset allocation is just the first step. Here are some risk management techniques to further mitigate correlation risk:
Sector Diversification: Spread your equity exposure across sectors with low correlation, such as healthcare and technology.
Geographic Diversification: Invest in global assets to hedge against localized market fluctuations.
Active Portfolio Management: Your PMS provider should continuously monitor your portfolio and make adjustments to maintain your target asset allocation.
5. Dynamic Rebalancing
Market movements can disrupt the initial balance of your diversified portfolio. Dynamic rebalancing involves periodically re-weighting your asset allocation to maintain your desired risk profile.
This ensures your portfolio remains aligned with your investment goals throughout market cycles. By staying informed, working closely with your PMS provider, and continuously monitoring and rebalancing your portfolio, you can navigate the ever-evolving market landscape with greater confidence and achieve your investment objectives.
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