PIMFA
Building the all-weather portfolio for family offices
How can wealth managers build portfolio resilience? Mercer believe in selectively embracing risk that is rewarded.
At Mercer we’re often asked about the importance we place on families building resilience into their portfolios, positioning investment strategies to deliver through all weathers. Our emphasis on resilience is not driven by risk aversion. On the contrary, we firmly believe in selectively embracing risk that is rewarded. Over the past two decades, we have observed how portfolios that prioritise resilience, adhere to consistent portfolio construction principles, and follow a robust process, have delivered improved outcomes, enabling families to focus on one of their core objectives − preserving intergenerational wealth.
Over the past decade, the world has undergone substantial transformations, including macroeconomic volatility, evolving geopolitical risk, technological change, resource supply chain disruption, climate, and nature. These transformations have been driven by shocks such as the pandemic, wars – and subsequent policy responses.
While shocks alone may not always lead to investment regime change, the magnitude of recent shocks have delivered significant transformative impacts, particularly when they intersect with slower-moving megatrends like the climate and energy transition.
This is precisely why we strongly advocate for families to prioritise portfolio resilience. The findings of the World Economic Forum’s Global risks report 2024 evidenced the scope of escalating instability due to rapid technological change, economic uncertainty, a warming planet and conflict, reinforcing the rationale for prioritising portfolio resilience.
We explore our best ideas for adding resilience to portfolios
Adopt a top-down approach across and within asset classes
One of the recommendations in our Top investment considerations for financial intermediaries 2024 is to respond to the evolving investment opportunity set by expediting a strategic asset allocation review to reassess medium-to-long-term portfolio positioning.
This top-down approach should extend beyond the total portfolio level and permeate through to each sub asset class. By doing so, the decision-making process will consider the broader objectives and considerations of the portfolio, rather than unintentionally adopting a bottom-up approach which is subject to influence by sales-driven product pushes.
A practical example of this is a multi-sleeve approach to constructing a private market portfolio vs. allocating to General Partners (GPs) on an ad hoc basis. The top-down multi-sleeve approach encompasses multiple asset classes and offers various benefits. It is designed to allow for the maximisation of returns through private equity, protection against potential downside with private debt, protection against long-term inflation through real estate and infrastructure investments, and additional diversification from investments in natural resources, farmland, and timberland. At the sub-asset class level, this approach helps to enhance portfolio resilience by implementing a multi-manager strategy.
This involves a rigorous manager selection process aimed at partnering with high-quality GP managers who can generate attractive returns even in challenging markets and unfavourable interest rate environments. What sets this approach apart from an ad hoc approach is its ability to align with long-term investment objectives; incorporate a quality cash-flow pacing model to anticipate liquidity needs; and consider the vehicle structure to reduce complexities associated with pacing and ensure liquidity for unpredictable capital calls. By adopting an ad hoc approach, investors can miss out on these benefits.
Consider a variety of engagement models
To address margin pressure, rising fixed costs, and growing regulatory requirements, many wealth managers are exploring different engagement models. These models include outsourcing, extension of staff, traditional consulting, insourcing, and strategic partnerships. By adopting these models, wealth managers can enhance their in-house expertise to strengthen portfolio resilience. Our Global wealth management investment survey 2023 confirmed the increasing trend of exploring a range of engagement models across various functions.
Wealth managers have the option to delegate day-to-day management decisions to a trusted team, either through a fully outsourced model or a hybrid approach. This allows investors to focus on the parts of the portfolio they specialise in, freeing up time to focus on other non-investment challenges, such as succession planning.
The choice of engagement model depends on the size and market position of the strategic partner. Strategic partners can help negotiate fees with investment managers and other service providers, enabling wealth managers to achieve their goals more efficiently. The most effective engagement models offer flexibility and adaptability, providing wealthy families with customised solutions that align with their specific investment objectives.
Key takeaways
- Prioritise resilience in portfolio construction to improve outcomes and preserve intergenerational wealth for wealthy families.
- Recognise the significant transformations happening in the world, driven by factors like inflation, interest rates, geopolitical risk, technology, resources, climate, and nature. These transformations, along with shocks like the pandemic, highlight the need for portfolio resilience.
- Explore different engagement models, such as outsourcing, insourcing, and strategic alliances, to enhance in-house expertise and strengthen portfolio resilience. Flexibility and adaptability are crucial in selecting the right engagement model.
Contact Sebastian Maciocia, Director of Wealth Management at Mercer, if you would like to discuss these issues further.
