Investing basics: How to build a growth portfolio

Many long-term investors have a similar fundamental objective: to grow their money as much as possible without taking undue risk. But how is this best achieved?

| 8 min read

The stock market: A long-term wealth builder

Whatever your financial aspirations, achieving growth over many years, and often decades, requires finding assets that will go up in value. History shows that over the long term the stock market (representing shares in individual companies, also known as equities) is the asset class with the biggest ups and downs but has also provided the best returns – so having the bulk of a portfolio invested here makes sense.

Although the economic and political outlook usually provides plenty of reason to delay investment decisions, it is typically time spent in the market that dictates investment returns over the long term rather than agonising over timing.

A range of asset types

It is important not to put all your eggs in one basket by putting too much of your portfolio to one area. Besides equities what other assets could you consider? Bonds – the debt of companies and institutions – tend to be less correlated to equities (they mostly don’t move up and down in tandem) and often lend stability, however they mainly offer a bit of income rather than growth.

The degree of protection they currently offer is also being questioned at present because low interest rates have pushed their yields down to very low levels. A rise in inflation would likely be negative for bonds as well as for lots of equities – as I discussed in my article 'How could higher inflation affect your investments?'.

You could also consider investing in more specialist asset classes too – things such as property (for instance through investment trusts in this area), private equity, commodities such as gold and targeted absolute return funds.

Private equity – buying into shares or assets that are not listed on a stock exchange – is increasingly important as many new, fast growing companies are staying private longer, so more opportunities are out of reach of public markets. Some investment trusts specialise in private equity, or you can consider trusts that have as a significant element of their portfolios – examples include Scottish Mortgage and RIT Capital.

There’s a rundown of the various ‘alternative’ investments to consider here. Blending a variety of these in a portfolio alongside equities and bonds can reduce risk while still aiming to generate decent returns.

A geographical spread

A ‘default’ position might be to roughly align your portfolio with the relative size of world markets, in which case you would have a lot of your money (50-60%) in the US markets and the remainder split between Europe, UK, Japan and Emerging Markets to get a good spread.

You might feel strongly about one area or another and want to come up with your own weights, though. Geography tends to mean less these days and often markets tend to be highly correlated with each other most of the time – though some emerging market countries, and perhaps Japan, tend to do their own thing more often.

Many UK investors have a bias to their home market. There are plenty of decent businesses and it usually means less risk in terms of currency movements. Yet it would also be wrong to overlook the great array of opportunities overseas.

The US has the world’s largest economy and is home to many dominant global companies, while including European, Japanese and Asian investments can also bring a greater variety of businesses compared with confining your investments to the UK. With a multitude of funds investing in each of these areas, diversification is easily achieved. Meanwhile, emerging markets such as China and India offer faster rates of economic growth and often the opportunity for entrepreneurial businesses to grow rapidly – however the risks can also be higher.

Strength through diversity

Next, it’s time to populate your portfolio with individual investments. Some investors like to pick their own shares, but this is more hands on. You need to be prepared to do the research and stay in regular touch with what’s going on. As an alternative, 'collective funds' such as unit trusts and investment trusts can offer a convenient way to diversify your portfolio. These spread your investment – and risk – across dozens of different companies and are either managed by a professional fund manager or designed to simply track a particular index.

For instance, an ‘active’ equity fund manager typically selects a range of shares, usually 50 to 100, which means less reliance on the performance of any one company. Each is effectively a diversified portfolio, albeit often specialising in a certain area.

Active funds employ managers to try and select the best performing investments, whereas passive investments such as trackers simply aim to replicate the performance of an index, say, the FTSE 100, usually by holding all or most of the constituents.

Choosing funds

In terms of active funds, lots of investors go for the top performing – which can be a mistake. Yes you might join the upward momentum for a time, but if you pick the top fund in each geographical region its highly likely they are going to be correlated because they are aligned with a particular investment style. In which case when the tide turns they are all going to fall in unison – not what you want.

To counter this, you could either choose a ‘passive’ investment or tracker, which covers the whole market and all bases, or blend your active funds so you are not reliant on a particular style or concentration in certain industries.

Often its best to go for a passive fund if you don’t have conviction in a particular fund manager. The charges are generally very low, which over time can boost your returns. More expensive active funds have the handicap of overcoming their higher charges, but it can sometimes be worth paying up for specialist expertise.

In large, well analysed markets it’s harder for a manager to have an edge. There are lots of other investors studying every minute detail. Yet active funds can really come into their own where proprietary research has a big impact. This might be in particularly turbulent markets and times of change, but more often its about the investments themselves.

Areas such as smaller companies, sector specialists such as tech and less well researched emerging markets are examples of where a robust active approach can more consistently reduce risk, boost returns and overcome the higher fees. Anywhere where a manager can leverage their insights. There can also be cases where a particular consistent and unemotional investment approach harvests better-than-average returns over the long term.

How many funds?

There is no magic number for the number of funds you should hold. A very simple portfolio could be just one fund – a global equity tracker for instance. But if you want a good spread and don’t mind being a little hands on in terms of checking your portfolio a few times a year then up to 20-25 should be fine.

Any more than this and it may be too challenging to keep tabs on them all, and make it more difficult to rebalance periodically. This is where you keep to intended asset allocation by selling a little of what has done well and topping up areas that have lagged. Also, the benefits of diversification wear off with greater numbers – if you already have the main areas covered you are just adding more funds without any particular benefit.

Help getting started

If you are looking for investments to fill a gap in your portfolio our Foundation Fundlist could help. This collection of investments is chosen by our Research Team to represent our best ideas across the major sectors. Alternatively, for those simply wanting a well-diversified portfolio in a single investment, our multi-asset funds are monitored and rebalanced by Charles Stanley experts. Each is designed to meet a broad risk profile – from cautious through to adventurous.

If you are looking to build a portfolio primarily for income rather than growth there are some tips on our dedicated webpage.

Nothing on this website should be construed as personal advice based on your circumstances. No news or research item is a personal recommendation to deal.

Investing basics: How to build a growth portfolio

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