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PORTFOLIO STRATEGY

Investors resist it, but simplicity is better Add to ...

Investors looking to do well in the markets might want to heed the Beatles’ advice: You’ve got a good reason for taking the easy way out.

Lots of reasons, in fact. Investors tend to overcomplicate their portfolios, and advisers say that keeping them simple can work to their advantage.

“For most Canadians, just making a commitment to saving and investing is a challenge. Complexity has been used in finance to confuse clients,” says Chris Nicola, co-founder and chief technology officer of WealthBar, an online and robo-investing adviser service based in Vancouver.

“The more effort, research and time involved, the more anxiety people experience and the less likely people are to get started in investing.”

A robo-advisory service that makes decisions automatically based on the client’s profile and input can be one way of keeping investment simple, Mr. Nicola says. Many clients aspire to be simple but find the pressure of do-it-yourself decision making too daunting, he explains.

“While DIY might work for some, the effort of researching, selecting, monitoring and rebalancing just isn’t something most are comfortable with or even interested in. It’s still too complex,” Mr. Nicola says.

Even advisers who do provide their own in-person counsel agree that simpler can be better.

“The easiest and simplest thing someone can do to preserve and grow the value of their money over a 30-plus year time frame is to simply own an exchange-traded fund [ETF] that invests in the largest companies of the United States or the world,” says Markus Muhs, an investment adviser with Canaccord Genuity Wealth Management in Edmonton.

“I don’t think there’s a need to get that much more complicated, and in my own business I’m reluctant to own any kind of fancy alternative investments,” he says. “Believe me, I get called almost daily by companies pitching them.

“More and more we’re utilizing a tactical ETF strategy for our clients that invests in a number of low-cost index ETFs and aims to provide a superior return through asset allocation decisions. The thesis of such a portfolio being that making individual stock selection decisions isn’t as consistent at improving returns as is making high-level asset allocation decisions.”

Mr. Muhs says he relies a great deal on the advice of Nick Murray, author of numerous financial books including Simple Wealth, Inevitable Wealth.

“His thesis is pretty simple: In the long run there literally is no alternative to equity ownership, and this itself should be fairly simple – just own them.”

The S&P 500 index is a case in point, Mr. Muhs says. “In my own lifetime it has gone from around 120 in 1981 to close to 2,200 today. Yes, we saw crashes and corrections, but they had no impact on the ability of equities to outperform all other asset classes.”

While a human adviser can help investors plan a simple strategy, this can be done with a robo-adviser, too. It will make the basic key decisions such as rebalancing based on the profile the investor provides. Some of the automated services, such as Mr. Nicola’s WealthBar, also pair clients with a human financial adviser who can help with planning and deciding.

ETFs have made it easier to keep it simple today, says Dan Bortolotti, an associate portfolio manager at PWL Capital in Toronto and blogger at the Canadian Couch Potato investment website.

“When I started my blog in 2010, the model portfolios I suggested were often rather complex: six, seven, even 10 ETFs. These look good on paper, but I heard from many investors who found them difficult to manage. The more moving parts you have, the more challenging it is to rebalance. Now the ETF portfolio I recommend has just three funds,” he says.

Moving to a simpler model, with fewer funds, not only reduces complexity, it also lowers costs and makes things easier for clients to understand, Mr. Bortolotti says.

“A key point here is that making a portfolio simpler does not necessarily mean you are giving up anything in diversification,” he says. “Many people look at a portfolio with just three ETFs and feel it’s not broadly diversified.”

Ironically, a portfolio based on three ETFs can be more diversified than a portfolio with 50 stocks and a bond ladder with 10 individual bonds, Mr. Bortolotti says.

“They may not realize that the underlying holdings include thousands of stocks across more than 30 countries and a dozen currencies, as well as hundreds of government and corporate bonds of all maturities.”

Among the ETFs that would make good simple portfolio holdings are the Vanguard FTSE Global All Cap Index or the iShares Core MSCI All Country World ex Canada Index, Mr. Bortolotti says.

“They cover the whole equity market outside Canada. So you get global exposure through thousands of stocks using a single ETF [with each example] and you don’t have to rebalance it.”

If simplicity is better, why do investors resist it so much?

“Complexity tends to be the default option that gets used to persuade investors to buy unnecessary investment products,” says asset manager Ben Carlson, author of A Wealth of Common Sense: Why Simplicity Trumps Complexity in Any Investment Plan. “The vast majority of people really just need to understand more conventional options to succeed.”

Mr. Bortolotti agrees. “While all of this sounds so easy, humans just aren’t wired to embrace simple solutions.

“We all have ‘action bias’ – we tend to think that doing something is always better than doing nothing.”

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