DIY Investor Magazine
| Oct 2017
26
CORE AND SATELLITE – SIMPLE, EFFECTIVE INVESTING
FOR YOUR ISA OR SIPP
David A. Norman
CEO, MAPS and TCF Investment
Core and satellite investing is a method of portfolio
construction designed to minimise costs and volatility
while providing an opportunity to outperform a broad
stock market or portfolio of markets as a whole; it is
why some of the largest and best resourced investment
funds in the world (pension funds and sovereign wealth
funds) have adopted this approach, but there is no
reason why it should not be used by the DIY investor.
The core of the portfolio consists of passive investments
that track major market indices, such as the S&P 500,
FTSE Allshare, Global Bonds.
Additional positions, known as satellites, are added to
the portfolio in the form of actively managed investments
or single stocks
THE ADVANTAGES
A portfolio with a core of long-term low-cost investments
and an outer layer of specialist or shorter-term holdings
can:
•
Spread risk - by increasing your overall
number of stocks and bonds.
•
Allow you to benefit from a variety of
investment strategies e.g. active and passive.
•
Reduce the volatility (the portfolio ups and
downs) by having greater diversification.
•
Reduce costs – by using passive funds / ETFs
to hold the core – and mean less dealing for
the satellite positions.
•
Provide the potential to outperform the
market – using satellites to take higher risk /
conviction positions.
PORTFOLIO CONSTRUCTION
First, look at the core portion of your portfolio. The
assets will be allocated to investments that are designed
to be managed passively. If you have a UK only portfolio
you might use a FTSE Allshare tracker
For the actively managed portion, the goal is to select
investments where a portfolio manager’s skill provides
an opportunity to earn greater returns than those
generated by the passive portion of the portfolio.
In this example, you could put 20% into a small range
of stocks in a particular sector or use a “high alpha”
manager with concentrated stock portfolio e.g. bio tech
for the balance
There is no fixed rules about the exact strategy – as
Investopdiea notes: “The core portion of the portfolio
can be used to track any index, including those that
intentionally reflect a style bias for value over growth,
growth over value, government bonds over corporate
bonds, domestic markets over foreign markets or
whatever you prefer. Similarly, the sky is the limit in the
satellite portion.”
COSTS
The core portion of the portfolio helps to minimise
costs as passive investments are almost always less
expensive than their active counterparts. Because
indices change infrequently, transaction costs and tax
are minimised.
While investors often have some knowledge of home
stock markets e.g. UK Investors have understanding of
UK stocks, they tend not to have knowledge of overseas
or other assets e.g. Emerging Market Equites or Global
Bonds.
PORTFOLIO CONSTRUCTION DESIGNED TO MINIMISE
COSTS AND VOLATILITY WHILE PROVIDING AN
OPPORTUNITY TO OUTPERFORM
