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Core and Satellite Investing

May 2017

Core-satellite investing allows combining two diverse approaches to investment management within the same portfolio.

As one sets out to build an investment portfolio, they need to take into account a number of factors, primary being one’s risk profile and return objectives along with a time horizon. And as anyone who has looked to build a portfolio would know, the lure of returns can often act as a hindrance in the building process of the portfolio. A popular strategy to tackle this lure and in order to maintain a well-balanced portfolio is to split your assets into ‘Core’ and ‘Satellite’ investments. The core of your portfolio is invested in longer term investments, which may have a lower cost attached to them and a lower risk profile; while the smaller satellite investments are made for a shorter term objective which maybe riskier.

Source for image: Vanguard Core-Satellite Series

The goal of this strategy is to create a portfolio that outperforms the broader market in the long term while using short-term market opportunities to dampen the effect of market fluctuations. As outlined, core investments are long-term in nature. They traverse a range of asset types – Equities to Bonds and Alternates including REIT’s amongst others. The satellite portion of the strategy seeks out specifically targeted opportunities based on market conditions and as seen from the image act as a layer or cushion around the core investments. They can be seen as a shock absorber to the core portfolio.

 

How does one go about building such a portfolio? The first step is risk profiling and asset allocation. So based on the profile you see yourself in, you need to decide on the overall equity, debt, cash or other allocations. This is then further categorised across specifics within each class. For example, incase it is decided to allocate 40% to equities, it maybe outlined that 30% will go to local equities and 10% to global stocks.

Following this, the core and satellite balance is decided. Within each asset class selected, providing they allow for the flexibility of near term or active investing, this balance is around used. Continuing with the earlier example, in the case of local equities, 10% is a satellite investment allocation. Thus, of the total 40% allocated towards equities, 30% is core and the balance satellite. And finally, one is required to select the specific investment option (eg. Fund A over Fund B, etc.)

 

It is essential here that while selecting investments forming part of the core and satellite categorization, one needs to account for

Share. What amount of your portfolio will go towards core investing. Understandably, this has to be the larger portion of your portfolio. Whatever category of investor one maybe, they need to be disciplined towards their method and accordingly staying true to their way of investing, need to build the core portfolio with that objective. The percentage of the portfolio you allocate to core investments can be as high as 90% of your assets. The satellite portion could make up as much as 40% of one’s portfolio.

Correlation. A critical objective of this strategy is to build a hedge against market volatility. Accordingly, see to it that investments made here are not directly correlated to the market (generally, a core portfolio may have a higher degree of correlation to the broader market). This will ensure, you are pursuing the right approach in hedging your portfolio.

 

A core and satellite approach gives an investor the flexibility to blend different styles of investing and different market exposures to suit their risk profile. So whether you are an experienced investor or someone starting off, this approach may well offer you the edge to stay nimble footed in today’s environment of rapidly changing events.

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