Most investments perform well when economic conditions are favourable. What investors need most, in order to balance their portfolio, is an investment that has the ability to perform well in bad times, i.e. when economic conditions deteriorate and the share market is falling, as one of the key reasons why investors suffer significant losses during share market declines, is that their investment portfolios have little downside protection, i.e. they do not have any investments in their portfolios that can perform well in negative market conditions. We call this being ‘overweight good times’.

An investment that has the ability to perform well in bad times can assist the overall investment portfolio to contain losses and therefore minimise volatility, so as when conditions become favourable once again, the portfolio can quickly recover. Of course, the best investments, including the best managed funds, are those that have the ability to perform well in both good and bad times – as negative conditions can and do persist for many years at a time.

Further, adding an investment that has the ability to perform well under adverse conditions helps to protect and grow wealth through all economic conditions. This need becomes even more important as people approach retirement, or are in retirement, as the time to recover investment losses is not on their side, and the option of returning to work may no longer be available. Further, the asymmetric nature of returns means that if a portfolio suffers a loss of 50%, a return of 100% on the remaining capital is required to recover the losses. Can this happen? Of course. During the GFC of 2007-2008, the S&P/ASX 200 Index fell over 50%.

Unfortunately, the need for yield has driven aging investors to take on more risk. As an example, a typical self-managed super fund in Australia has approximately a third of its assets in cash, a third in shares, and a third in property. Due to the low interest rate environment, the cash is barely keeping pace with inflation, so it contributes little to the portfolio. The remaining two thirds is in volatile growth assets, which are reliant on rising share and property prices – but what happens when share and property prices fall, or remain stagnant for a decade or more? More importantly, what does the future hold? According to a 2015 report issued by State Street Global Advisers, the investment management division of the world’s second largest asset manager, global equities will return 6.5% per annum over the next 30 years, and global investment grade bonds will return 2.4% over the same period, whilst inflation will average 2.5% per annum. This equates to a traditional balanced portfolio comprised of 60% equities and 40% bonds producing an after inflation return of just 2.36% per annum for the next 30 years, which most investors will find insufficient to meet their investment objectives, and yet it is logical, that a world dominated by low growth, low interest rates and low inflation, must translate into low returns from growth assets – and considerable volatility, as investors are torn between protecting their hard-earned capital and obtaining a reasonable yield. Traditional portfolios struggle to produce a reasonable return when economic conditions are unfavourable.

Looking for answers
Trustees of self-managed super funds seeking the best SMSF investment strategy in today’s world, should consider allocating part of their fund to a highly diversified ‘all-weather’ investment strategy, that has the ability to perform equally well in both good and bad economic conditions, which can reduce the overall volatility of their investment portfolio and provide more consistent performance through a wide range of economic conditions.

The Rushton All Seasons Fund is an Australian managed fund that adopts a highly diversified, multi-asset class investment strategy combining a wide range of complimentary return sources, designed to spread the risk more evenly across a wide range of economic conditions, with reduced exposure to the direction of the various share markets. This is very different to a traditional share investment, where the majority of returns come from the upward movement of the share market, i.e. ‘time in the market’, which also comes with the constant concern of the next share market crash, or correction.

The central benefit of the All Seasons approach, is that it raises the possibility of generating ‘equity like’ returns, without being dependent on a rising equity market. Further, it is possible to produce positive returns in ‘bad times’, when equities are falling, as well as in good times, when they are rising.

The key point, is that it is important to add an investment to a portfolio that is not dependent upon the direction of the equity markets to achieve a positive return, as most investment portfolios, tend to do well when equity markets are rising, as they are dominated by equity market risk. The challenge, for most investors, is working out how to produce a reasonable return through falling or stagnant markets, in order to smooth the overall long-term performance of the investment portfolio.

When searching for the best investments in Australia, investors should seek out investments that offer:

  1. An investment that has a sound theoretical underpinning;
  2. A high risk-adjusted return (in other words, a high level of return for the risk being accepted);
  3. An investment that is lowly or negatively correlated to other investments, allowing it to provide a powerful diversification benefit to the overall portfolio;
  4. An investment that has the ability to perform well in ‘bad times’, including large equity market declines, so as to protect one’s wealth from these events, which happen all too frequently;
  5. An investment that is unleveraged, or moderately leveraged – not highly leveraged;
  6. A liquid investment, so that investors can make withdrawals if the need arises; and
  7. An investment with risks that can be adequately understood and comfortably accepted.