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Investment Strategy Part 4: Summary and Example

This is the final part of this four part series of posts on Preparing the Investment Strategy for your SMSF (the complete series can also be found on the Articles page). To wrap up, I will just summarise some of our discussions and give an example of how to prepare this document and when you should review and update it.

Asset Allocation

We discussed using Asset Allocation as an investment method. Traditionally this is the method used by most people for investing their super fund. A decision is normally made to allocate to certain percentage of funds to “growth” assets like shares and “defensive” assets like cash, and once the allocation has been set, most people just forget about it.  The conventional belief was that stock markets always go up over time. While that has been mostly true for the Australian market in the past, this has not been the case in other countries as seen in the chart below. The Japanese market has been declining since 1989 and the Nikkei index is now at the same level as what it was 25 years ago. The US has been through two major corrections and the S&P500 index is current at the same level as where it was 10 years ago. This could happen to the Australian market. Based on the severity of the global financial crisis, it may be a very long time before we can regain the highs of 2007. I don’t think we can afford to take a passive investment approach by buying and holding and expecting our investments to grow over time. Even if you prefer a passive investment method, at least do a review once a year and re-balance your allocations based on your market outlook.

When determining your asset allocation, you should also include what you have outside of super as well to get a total picture of what types of investments you have. Since borrowing was allowed for SMSFs, many people are keen to buy properties using their super fund. We consciously chose not to invest in properties in our SMSF because we already have investments in property outside of our super fund.

Active vs Passive Investing

The choice of investment methods could depend on how much time you have to manage your investments. Passive (buy and hold) is the least time consuming and works well in a bull market as asset prices keep going up but may not be able to generate the return you want in a flat or bear market. The passive method was what we planned to use for our SMSF when we first started in 2007. As newbie trustees, we were unsure about the restrictions for SMSFs and wanted to be conservative and invest in ways that we knew were well accepted by the ATO, such as buying and holding blue chip shares. We had to re-evaluate our original strategy when market conditions changed dramatically in 2008.

As we already had some knowledge and experience with options, we decided to actively manage our investments and use exchange traded options to protect our assets and enhance returns in a flat or falling market. We started in August 2008 with really simple, conservative strategies which were less risky than buying and holding stocks like selling put options to buy stock at a discount and selling calls to boost income on top of dividends. This has worked well for us last year and we are happy to share how to implement these strategies with others through this blog. We are aware that time may be a constraint for some trustees and these strategies do not require much time to implement.

You may prefer to use other methods like stop losses, trailing stops and profit targets to actively manage your investments. We know of people who use their SMSF to trade futures and CFDs. We have looked at some of these active strategies but did not find them suitable for us.

Sample Investment Strategy

As mentioned in Part 1, we treat our Investment Strategy as a Project Plan to guide us in our investment activities. Our Investment Strategy is a living document which is reviewed (and updated if required) at least once a year or whenever there is a major change that could affect our investments. We like to review ours at the start of the financial year after we have a had a chance to assess the performance of our investments and strategies in the previous financial year. We try to learn from our mistakes and adjust our investment strategy accordingly. We also discuss our outlook for the next year and how we think it would impact our investment strategy and document our thoughts and any suggestions for changes in the minutes of the meeting. We have just completed our annual review of our investment strategy and have revised it to match our outlook for the next financial year. We have decided to post our Investment Strategy for FY 2010, together with the Minutes of the Review Meeting on the Resources page of our website. Feel free to use it as a template for preparing your own investment strategy if you like (Disclaimer: the content reflects our personal opinions and should not be construed as investment advice). After the investment strategy has been created/updated, copies of it should be given to your accountant and auditor to ensure compliance with ATO requirements.

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