What return are you targeting?

Aminatidi wrote: »

Playing around with (these are simple examples) blends of an equal mix (to avoid manager risk) of:

* Capital Gearing
* Troy Trojan
* Ruffer Total Return
* Senica Diversified Income

(four defensive options that leap to mind)

10 year average returns are 6.6% so you're doubling your return approx every 10 years with a very smooth ride.

Throw in a portion of 100% equities and of course returns improve with some added risk and volatility.

Of course you can't buy past returns but Portfolio Visualiser gives a reasonable insight over long periods of time too.

If you are doing it right, you will be looking at long periods of time and not pinning your hopes on the last ten years.

The market bottom for equities reached during the 'global financial crisis' was March 2009. At that point, the FTSE All-World index had just crashed almost 60% from its peak in USD terms (less than that in GBP, as GBP weakened against dollars from 2007 to 2009). Then in March 2009, world governments slashed interest rates and started a quantitative easing (money printing / bond buying program) which increased the value of bonds and equities and restored confidence in all asset classes.

So if you look now at your 10-year chart for a mixed asset fund - whether it is a defensive fund or a growth fund - and the start point for the chart is something like March 2009 to June 2009, you are including the massive abnormal return available from the market bottom during a rebound from a crash (e.g. in equities, FTSE100 bouncing back from 3500 to over 7000), and you are not including the crash that got it there (FTSE falling from over 6700 in 2007 to 3500 in 2009). And with the QE programs and interest rates hitting all time lows (even negative base rates in some countries or regions) you are picking up the last decade of a 30-35 year bond bull run without seeing what happens to the value of bond funds when interest rates go back up from 1% to 5%.

So, it's no wonder that even 'defensive options' for investing in a mix of stocks and bonds have done very well, while equities have more than doubled in a decade (especially overseas equities, as sterling has fallen to a low recently with USD worth more pounds than a decade ago).

As such, what you might *think* you can get - whether from low risk low volatility funds, or high risk high volatility funds, or something in between - based on the last 10 years of history... is likely to be optimistic, because it would be unreasonable to expect the next 10 years to be as good as the last.

It has got me thinking how much I need to return vs. how much I want to return.

Anyone care to share how they've worked this out other than a finger in the air?

Finger in the air is the most common approach.

You are right that a lot of people want the return to be as much as possible, for as little as possible risk - it's a standard request from people who come on here with a windfall and no experience of investing, but even people without a windfall make the same sort of decisions what to buy with their ongoing pension or ISA contributions etc, and hope for as much as they can with as little risk as they can. Some are more realistic in articulating what they really need and what they are willing to risk to get it.

We all have our own landing point for where we sit on a sliding scale of risk given our objectives. For some of us, we might modify our scale to account for where we think different asset classes currently sit on the scale at a point in time. For other people, they don't know much about portfolio allocation theory but just put as much money as they can spare into their company pension using the default option and hope its enough.

For the latter group of people, if it turns out to be too much - what the heck, you can always find ways to spend it, and for a great deal of them they don't have enough money to make their retirement pot 'too big' while making standard investment choices. Finding yourself with too much left over is not something that many people are fortunate enough to encounter.

For me, I don't know what sort of returns I will be able to get over the next 20+ years but I know I will generally need to be willing to take somewhat high risks to get there, because I do want to finish my working life with a lot put away, without wanting 100% equity-type exposure while getting there.

So I have an idea of what sort of risks I am willing to stomach on how much of my portfolio; and whether or not a particular investment could take a place in it or would be preferred to a certain other investment ; and roughly what proportions I am willing to put into what sort of stuff to get exposure to different things while getting a result where the portfolio components aren't all highly correlated but have good potential to contribute to the overall result over my timeframe.

This doesn't mean I know specifically that I either need or will get (e.g.) 7% nominal or 9% nominal annualised return, or inflation-plus-5% or inflation-plus-2%, as it does depend a lot on what markets actually do from their current levels and from future levels when I am investing more. I'm not going to bet the farm on a dream of 10% annualised with huge swings up and down along the way, but neither will I be putting everthing in short dated gilts and treasuries - because I know that the latter definitely won't get me enough growth over a long time period. So I will pick an overall level of risk I'm comfortable with, without knowing exactly what it will give me back.

I am not yet at the stage where I have enough assets that I can realistically think, "OK, I am probably fine from here now with only a moderate return so I will dial down the risks to a much more moderate level even though of course it is nice to have more". Or at the other extreme of mindset, to think "OK I have plenty of assets that I'm not going to run out even if I take high risk choices so I can actually go full on in high risk areas because they're quite interesting to me, and see what happens". Hopefully one day I will be in the financial position to do one of those two things.

What I do know is that I need to put away a good portion of my money now, efficiently, to provide for the future, but am not going to pin my hopes on an exact rate of return magically happening even if balance of probability says it should.

As such, I am currently more of the mindset which says that I will probably want £500k to £1m+ (today's money) of non-home assets to retire on (assuming the home is paid off also, but in the latter case it might not need to be); though what I'll actually be able to achieve will depend on my career and lifestyle choices and the vagaries of the various asset markets over the next 15-25 years or however long I can keep working. And I should get there if I put away good chunks of money every year into the types of assets I am comfortable with. So, I do.

What I don't have is a model that says I will need a retirement pot of exactly £684,136 in 2036 because the market conditions at that time will allow me to extract £x a year increasing with CPI over exactly 36.72 years, and working back to now I need to get y% straight line growth over 17 years to reach the £684,136 in real terms gross of tax relief, so on top of my existing pension pot I will need contributions of £z per month, and to deliver the y% I will have to use this specific portfolio blend because that mix of assets will definitely get the exact y% needed.

Because that way, lies disappointment. For me, it's better to just invest a lot of money into a diversified portfolio of things whose risk/return prospects I can tolerate. A proper financial planner would probably be shocked that the goal planning was not more scientific. As I get closer to my objective of stopping working, I imagine it will get more scientific; likewise if I was helping out friends or family members who refused to buy proper advice from a professional we would get more scientific in what they were looking to achieve because I would have a greater sense of responsibility if it wasn't just me and partner/offspring being impacted.

I agree with Herbalus that 'guessing' what might happen in the future to salary, ability to save , and to investment returns, is not going to be accurate.

DrSyn wrote: »

You indicate you are playing around with various mixes of asset classes volatility and risk levels while trying to avoid manager risk.

I therefore find it strange that no where in your post is there any mention that you have considered passive multi asset funds such as those below, which have a wide diversification while minimising risk at low cost:-

I would be interested in your reasons for avoiding them, at least for part of your portfolio.

He / she didn't say that was the portfolio they were going to acquire, nor what they were going to avoid. Therefore it is not strange that they did not mention a consideration of passive-based multi asset funds. Indeed it would be strange if they had, in the context of their observations and their question.

The exercise they were carrying out was: playing around with different asset allocation mixes over long periods using Trustnet and/or Porfolio Visualiser* to see what types of returns were available over those long periods.

* I'm not sure whether this is a typo for the US-centric / dollar based "Portfolio Visualizer" site, or whether they simply mean the Portfolio review tool on Trustnet, but the point is moot.

As a consequence of spending some time with such a site, they gained an appreciation for the different levels of return made though some historic time periods.

As a simple example which was focused on lower volatility / capital preservation trusts, and averaging the returns from 4 different managers to better avoid luck or bias, they noted that those lower risk investment products gave about 6.6% annualised for ten years with a relatively smooth ride.

They then observed that the historic returns increased, with risk and volatility of course, when throwing some 100% equity allocation products into the mix.

It can be quite an informative way to spend an afternoon, playing around with the historic returns of different product types, and getting some insight into how markets work and how different products might work together over long periods to deliver different returns ; Trustnet allows some mechanical / formulaic measures of correlation to be reported over limited periods also.

Having established the range of returns that might be available over longish time periods, the question it threw up was: how do people work out what sort of a return they 'need' (a return suitable for an objective) rather than what they 'want' (max return). Presumably the context is deciding what rate of return to target before subsequently seeking out one or more products that may be able to (alone or combined) deliver it.

While it is popular on here to tell people that all they need to do when they are ready to invest is to go and buy an appropriate member of the range of passive-based mixed asset funds offered by the forum's favourite four or five suppliers, that does not mean that someone should mention in every thread that they are considering doing that.

For example, if the question is - "how do people generally decide what type or level of return they need", there is no need to start reeling off a list of funds offering a range of returns.

Likewise if the question is preceded by the backstory that prompted the question (i.e. some time spent looking at ten-year-returns of investment products at the high and low end of the scale to get an appreciation of the range of returns available from the market) there is no expectation that those 5 passive-based multi asset funds would be used as examples in that backstory as they have not existed for ten years in their current form and Trustnet could not give you 10 or 15 or 20-yr returns for any of them.

Vanguard's Lifestrategy has been around since 2011 (though it has lowered both its cost and its UK bias since then). Blackrock had a Consensus product before that but only launched the various current equity threshold versions for the post-RDR market in 2012. L&G MI launched 2013. Architas only launched / rebranded as AXA's multi-manager business just over ten years ago and did not initially have the cheap passives range it offers today. Etc.