Portfolio Construction

Overview

Once trustees of the SMSF are satisfied that the investment strategy they have developed is appropriate for all members, they will need to consider how to create a portfolio that reflects that strategy and which investment products they use to do so. This is called portfolio construction and may result in putting together a range of different product types to build out each asset class outlined in the strategy document.

The type of investment products they choose may reflect their own knowledge of the asset classes they will include in the portfolio. For example, if there is a high knowledge level and comfort with the Australian equity component, trustees may choose to use a number of listed Australian shares. If on the other hand, they are less confident regarding the fixed income component, they may choose to use a professional manger to either put together a fixed income portfolio or invest in a packaged solution such as a managed fund.

If choosing a managed fund there may be other considerations such as:

• Style – is the manager active or passive? Active managers seek to outperform a benchmark, while passive managers may track an index or benchmark.
• Access – can the manager be accessed through an exchange, such as ASX or is the fund ‘unlisted’
• Cost – the fees charged by a manager can have a number of components; two are:
  • Style – active management tends to be more expensive than passive and
  • Difficulty of the asset class – if the underlying assets are difficult to access or to manage, such as global equities as opposed to Australian shares, then the manager may charge more.

The costs charged by managers are usually embedded in the fund and deducted from its performance before any payment to investors. These costs are usually reflected as a basis points (bps) charge called a Management Expense Ratio (MER). A MER of 25bps is 0.25%.