Portfolio Positioning: Mastering Strategies for Investment Growth

Now that we covered position sizing in the last edition, the logical next topic is positioning. In other words, we need to determine which asset classes and which specific assets we should be investing in as part of our holistic portfolio. 

For this entry, let’s break assets broadly into two categories with brief descriptions: Traditional Assets and Alternative Assets.

Traditional assets are classically broken further into three groups, with each group reflecting an implied risk and reward structure:

1. Equities or stocks

   1. Investing in stocks offers the potential for high returns, but comes at the cost of higher risk of loss of capital. This is due to the fact that bond holders are in line first to get paid in the event of a bankruptcy by the company, potentially leaving the stock owner with nothing. Conversely, if the profits of the company outperform, then the reward through share price appreciation and dividends returned to the investor are greatest for the stock owners.

2. Fixed-income or bonds

   1. Lending money or selling debt instruments, offers a pre-negotiated rate of nominal return or interest rate. Bonds offer lower risk to investors than the risk offered by stocks. Conversely, bond holders do not participate in the largess of great performance and instead are limited to that pre-negotiated rate of return. This asset class also faces risks from currency valuations and risks from inflation potentially eroding away your yield in real terms.

3. Cash and cash equivalents

   1. Holding paper money and coins, owning US Treasury bills which are short duration, money market accounts, and savings accounts are examples of cash and cash equivalents. The idea here is that you don’t want a lot of volatility in the value of these assets in the short run, coupled with another feature of high liquidity which essentially means that you will have a buyer when the time comes you wish to sell the asset. 

Alternative assets are classically broken into five groups:

1. Real estate

   1. Owning land, commercial buildings such as office space or retail, and residential property are examples of real estate.  Real estate offers potential rental income alongside appreciation opportunities. Idiosyncratic risks of political regime changes leading to unfavorable tax, rent and ownership structures, along with demographic and environmental changes make this asset class complicated. Further complexity within the asset classes involves a variety of sub-classes and categories. Take a ‘Class B’ multi-tenant residential  investment class which is essentially nice apartments, then tied to a specific idiosyncratic geography, such as the Southwest (e.g., Santa Fe New Mexico) or the Northeast (e.g., Providence Rhode Island). Class A are luxury apartments, whereas Class C are ‘not great’ apartments. So we have assets tailored to specific demographic buyers (e.g., luxury, nice, not great) at different price points, with different geographies and related risks (e.g., hurricanes by the coast, fire by nature preserves).

2. Commodities

   1. Precious metals such as gold, copper, platinum are examples of commodities. Other examples are agriculture related commodities such as corn and wheat, while others are energy related such as oil and uranium.  Because these are known as a type of ‘hard asset’ they are considered as an anesthetic to high inflation along with real estate.

3. Private Equity

   1. Private investments in debt and equity partnerships, typically with a general partner that leads the investment and subordinate limited partners which are the solicited investors. These assets typically take investment commitments with terms ranging from 7 years to indefinite time horizons, with the idea they will provide debt or equity instruments to companies. These investments are private in that they are not traded on the publicly accessible exchanges such as NYSE and NASDAQ, and often face higher risks with limited liquidity (i.e., the ability to sell when you want to) windows.  Often these investments rely on self-assessed valuations generated by the general partner, and may or may not reflect the realities of mark-to-market asset valuations. Some paint this lack of liquidity as a feature (i.e., you can’t sell when you get scared) and not a bug (i.e., you can’t sell when you need money).

4. Cryptocurrency

   1. Digital or virtual currencies like Bitcoin and Ethereum are examples of cryptocurrency. These assets are relatively new creations, as opposed to gold which has been used similarly for thousands of years, and therefore have a short history that has seen high volatility (swings up and down) and therefore is considered to face more risk.

5. Collectibles

   1. Items such as cars, fine wine, and art are classic examples of collectibles. Often illiquid and requiring specialized expertise for both storage and transportation, as well as valuation.

With these rough definitions in mind, let’s explore which asset classes to invest in. My research indicates this is absolutely not a one-size fits all answer. Rather, one should think about this in terms of where you are in life; and your goals and time frames.  That said, having a good understanding of liquidity or the ability to have ample buyers and sellers to create stable prices for markets of a specific asset, and having a good understanding of yourself (e.g., your personality and tendencies) and your financial goals and time horizons are necessary. 

While these allocations may not be right for everyone, they reflect an acknowledgement that you have allocations today, and you also have future targets to work towards, and that these allocations will change over time as you and the environment overall similarly change.

Traditional Assets: Target 50% | Actual %

Equities: 20% | TBD

Bonds: 10% | TBD 

Cash: 20% | TBD

Alternative Assets: Target 50% | Actual %

Real estate: 10% | TBD

Commodities: 10% | TBD

Private equity: 10% | TBD

Cryptocurrency: 20% | TBD