This week, the bankruptcy of Silicon Valley Bank (SVB) and the difficulties of Credit Suisse have caused a lot of excitement for investors. Taken with the need to honor too large a volume of deposits in a context of low yield of the bonds in which it invested, the SVB experienced liquidity problems which led to its closure. (Isn’t it surprising, by the way, that such highly paid leaders did not anticipate such risks to their institution!?)
Admittedly, this debacle can be explained in part by a misreading of the persistence of inflation—which many believed to be temporary for a while—and the radical measures required to mitigate it. In addition, there is also the fact that this bank, which has a clientele specializing in technology companies, has seen its profitability directly affected by the rise in key rates, its own investments being too concentrated in long-term bonds with fixed.
In recent years, I have seen many individual portfolios heavily overweight technology stocks, especially US stocks. Happy with the returns, their owners preferred to savor them while ignoring the basic principle of diversification in portfolio construction. It’s easy to assume that, for some, the euphoria has given way to some major disappointments in recent months, as the share prices of companies in this sector have been hit hard.
On the other hand, some investors claim to aspire to this famous diversification. “I don’t want to put all my eggs in one basket”, say those, which is very positive. On the other hand, the latter sometimes mix diversification and dispersal: for example by opening several small RRSP or TFSA accounts in different institutions, by working with two or three advisors at the same time, or by keeping contributions in an old defined contribution pension plan. .
Very often, these choices are not keys to diversification, but rather pose additional challenges for analyzing and monitoring the composition of the portfolio as a whole. Thus, it is quite possible to have four balanced portfolios in four different institutions managed by managers sharing a similar approach and offering a similar composition… This concrete example of dispersion does not add any value.
What does a diversified portfolio mean?
The work of Harry Markowitz (1990 Nobel Prize in Economics) has proven that an investor can obtain a better return if he holds a well-diversified portfolio, ie securities with different levels of risk. To improve the return-risk ratio, it is necessary, explains the economist of the University of California, to bet on values having the least correlation between them.
The diversification strategy is therefore not just limited to resorting to a composition that includes different asset classes, such as bonds and equities. To achieve this, we must also take an interest in the diversification of risks within them. For example, the bond portfolio should be spread over several private, government and local issuers, just as fixed-rate investments should have several maturities. The selection of equity securities should imperatively be carried out by betting on different industrial sectors of activity, because although they are all affected by the economic cycle, they are not affected in the same way and with the same intensity.
Furthermore, the representation of the securities on the various international markets should be taken into consideration. Ideally, the stocks selected would also present different levels of risk in order to reduce the volatility of the portfolio. Many indicators, such as the standard deviation, the beta coefficient and the Sharpe ratio allow this analysis to be made.
To put an end to the scattering
If the fact of holding several similar funds (and sometimes even identical funds!) in different institutions provides a false sense of risk diversification, the reflection is not the same if it is a question of guaranteed products or bank accounts. . Remember that your deposits of $100,000 (per person, per institution) are protected in Quebec through the Autorité des marchés financiers (AMF) and the Canada Deposit Insurance Corporation (SADC).
However, with regard to your investment portfolio, the philosophy should be quite different, stock market investments and investment funds not being protected by this insurance. Choosing a single advisor or a single firm to carry out an overall analysis of your investments will allow you to potentially combine all your assets, including your shares in private companies and your real estate investments.
Choosing a mutual fund representative working in an independent or securities brokerage firm facilitates access to brokerage and personalized advice. It goes without saying that the choice of this expert must be considered with a view to a long-term relationship. It will be important to check his skills, of course, but also, more intuitively, this choice will have to be based on his ability to communicate in an educational and transparent way and on the confidence he inspires in you.
The integrated analysis of all the assets in your portfolio will make it possible, for illustrative purposes, to verify the current level of diversification, to select funds whose management style (active or passive) and mandate (growth or value, for example) complement each other, not duplicate each other. More concretely, this approach will allow you to avoid several stock market securities being found in all the funds you use, for example. You will thus be able to see more clearly as to the volatility of your portfolio and adapt it in a simplified way according to your personal objectives and your risk tolerance.
In short, not putting all your eggs in one basket does not mean that four advisers have to hold said basket! A competent expert is enough to help transport it, by adding solid securities and funds to it, allowing a safe construction of a portfolio and facilitating its rebalancing.