Portfolio Management

Many institutional portfolios are managed by several different managers. This provides several advantages. Each manager might have a particular specialty, dividend-paying stocks, technology stocks or municipal bonds, for example. The institution can consider the track records and organizational strength of a group of managers in a given category and construct its portfolio with a chosen few. If certain managers fail to measure up, they can be terminated. This helps to build a “best of breed” group of managers, which may increase the likelihood of success.

Several studies conducted since 1986 argue that investment policy accounts for 94% of the variation in returns in a portfolio, leaving market timing and stock selection to account for only 6%. This suggests that if an investor is going to delegate investment decisions, it is more effective to grant full asset-allocation responsibility to the manager as well. Otherwise, 94% of the portfolio's performance responsibility is retained by the investment committee, because it decides how much the manager of each strategy specialty is given to invest.

On the other hand the committee might choose several managers and provide investment policy instructions to invest the funds as though they represented the client's entire portfolio and allow each to select from any asset class, stocks bonds, cash, international, real estate, etc., to pursue the best risk-aware return they can. The modifier “risk-aware” is included to recognize the fact that the more risk a portfolio manager takes, the more total return will be expected to compensate the client for assuming that additional risk.

Individual investors can also enjoy success with this procedure. Mutual funds that have considerable latitude as to asset class choice can be selected and monitored for persistence of performance and continuity of the management team. Funds that pro-actively seek to reduce risk or increase performance by shifting assets between asset classes based on their relative values and do it well are especially valued but hard to find. A collection of potential replacement funds is also studied in case a change is required at some future time.

It is important to bear in mind that if the portfolio is properly diversified, not all the funds will have always have good years. If every fund does well, the investor is probably not well diversified. When a fund has a sub-par year it does not indicate that a track record accumulated over many years has become meaningless. Rebalancing by shifting assets from the best performing funds to the lesser performing ones is an accepted practice to make use of temporary underperformance.

Investing in mutual funds involves risk, including possible loss of principal. 

There is no guarantee that a diversified portfolio will enhance overall returns or outperform a non-diversified portfolio. Diversification does not protect against market risk.

Rebalancing a portfolio may cause investors to incur tax liabilities and/or transaction costs and does not assure a profit or protect against a loss.