Some investors are starting to pop their heads out of the trenches to look at alternatives regarding growth asset investments going forward. This is almost being forced on investors as they see that the income from sitting in cash is not particularly appealing. In the current climate our firm would suggest that any investment into growth assets should be done in a measured way to reduce the possible down side if growth asset markets were to fall further.
If the decision is made to invest in growth assets, particularly shares, our research suggests using an investment approach based on the 3 Factor Model. So what is this model?
We have added a page to our website explaining this model in more detail. In is an extract from our book - Your Guide to Being a Successful CEO of Your Life - please click on the following link to be taken to the extract - The Three Factor Model.
How Do We Apply This?
In a nutshell, the three factor model suggests that the only way to outperform or under-perform the investor next to you (and the market) is to invest in companies with more or less size and / or Higher Value (BtM) risk.
The power of this is that investors can now build a passive portfolio that, through exposure to small companies and value companies can outperform the simple index. This method does not require investment skill, expensive research or tax ineffective trading.
What are the expected benefits?
On a standard 40 / 60 portfolio (40% cash & fixed interest, 60% Australian shares, international shares and property) The small, value and Emerging Markets factors would be about 25.4% of the overall portfolio value. If we were to achieve an out-performance over the market of say 2.5%, this provides extra returns of 0.63% per annum compared to a standard index portfolio with the same weightings.
A word of caution, the 3 factor model is all about understanding how risk works when investing. Holding small, value and emerging market exposure is riskier than holding a simple index fund. Therefore there are years where these areas of the market will under-perform the broader market exposure. We should only expect to see out-performance over a long time frame.
To see how we apply this model to our portfolios please take a look at our Building Portfolios page on our website.
