Capital protection should be core to satellite
Friday, 28 August 2009 12:50pm
By Michelle Baltazar | In Financial Planning
The core-satellite approach to investing can drive even better returns if used together with a tailor-made capital protection strategy, said an asset design consultant for planners and SMSFs.
Tony Rumble, founder of Alpha Structured Investments, designed financial products with capital protection in 2005, a time when the bull market would have made paying a premium for the feature sound silly.
But Rumble's clients, mainly high net worth investors and self-managed super funds (SMSFs), were duly rewarded when the unthinkable happened to the markets in 2007 and 2008. For example, those who did invest just before the GFC can rest easy knowing they still have their capital (assuming they hold on to the product until maturity date).
That's why Rumble predicts a core-satellite investing approach with a capital protection overlay will become in demand as the market starts to heal. The approach means clients capture the market recovery at a low cost (as the "core" portion of the portfolio is in indexed investments) and capture alpha from a select group of active managers but with the risk hedged.
"Capital protection can enable investors to take exposure to unfamiliar assets, especially those that are suitable for use within the investment portfolio satellites," he said.
But there are many ways to protect investor capital, each with its pros and cons.
For example, one way is to buy put options. "It's expensive and a performance drag, but offers benefits of certainty and full exposure to the underlying asset at all times," he said.
Another method is synthetic replication using bond and call options. "This is easy to deliver and understand but may be expensive or diseconomic [when bond rates are low]," he explained.
The final method is through Constant Proportion Portfolio Insurance (CPPI), a strategy that uses leverage, which by its nature becomes a double-edged sword depending on the market's direction.
In short, Rumble said there's more to capital protection strategies than meets the eye, which is why planners need to do their research on which one to use.The right strategy used in conjunction with a core-satellite portfolio goes a long way in ensuring wealth preservation in uncertain markets, he said.
This story was found at: http://www.financialstandard.com.au/news/view/26662
Printed: Wednesday, 8 February 2012 11:57pm