Five ways to reduce risk in your portfolio

There are many reasons people reduce risk in their investment portfolio. For some it’s because they’re approaching retirement and want greater exposure to safer asset classes. Others may be close to reaching a particular investment goal – such as buying a holiday home – and are concerned a sudden stock market fall could upset their dream.

Then there are those who are tired of the volatility that is part and parcel of having money in riskier, unpredictable parts of the world.

But how can you de-risk your portfolio? Is there anything you need to consider before going down this route and what are the main consequences of taking such action?

Definition of risk

Let’s start by looking at risk. This can best be defined as the likelihood of your chosen investments making losses, rather than returns.

Stock markets are notoriously volatile and changes in sentiment can wipe billions of pounds from the value of leading share prices literally overnight.

Therefore, your attitude to risk – and your ability to withstand such market movements – must influence where you choose to invest.

For example, if you are only risking a small percentage of your overall wealth, you’re likely to be less concerned about market fluctuations than if you had every penny locked away in shares.

The risks of de-risking

The first step is to analyse your existing portfolio. Where are you currently invested? How much risk are you taking? Is this appropriate or too much?

It’s also worth bearing in mind that de-risking can actually be a risky strategy. While that sounds counterintuitive, the reality is that lower risk usually means lower returns. In exchange for sleeping more soundly at night, you’ll be giving up the chance to enjoy bumper returns from investing in assets that can grow rapidly.

Whether it’s worth the compromise will depend on your investment goals. You’ll need to decide whether this approach will provide the longer-term returns you require.

Here are five ways to reduce risk in your portfolio.

Change your approach

You can change how you invest. Instead of putting in a lump sum, for example, you could use pound cost averaging to reduce the risk of putting your money into a fund at the wrong time.

This concept involves paying a set amount each month to buy units of a fund at whatever price they are currently available. When unit prices are lower, you will automatically buy more.

For example, if you regularly invest £200 into a fund and have been buying units at £6 each, when they fall down to £4, you will get more units for your money. Conversely, when units increase in price you’ll receive less. However, this is a sensible discipline to ensure financial decisions are not fuelled by sentiment.

Revise your equity allocation

If you still want your portfolio to grow but just take less risk along the way, then one option is to modify your existing equity allocation.

Maybe you have a significant amount in emerging markets but are less enamoured by the volatile nature of investing in these countries. If so, you could consider putting your money into a global fund that has exposure to a broader range of companies and countries.

One example would be the Trojan Global Income fund. This is a concentrated, quality income portfolio with an emphasis on capital preservation and growing its dividend over time.  It invests in high quality, resilient businesses over the long-term and is managed by James Harries, who has plenty of experience and an impressive track record.

Consider multi-asset funds

It’s also worth looking at portfolios that offer exposure to a variety of asset classes, where the manager at the helm makes the allocation calls, aptly called multi-asset funds.

That task is down to Steven Andrew when it comes to the M&G Episode Income fund, a multi-asset portfolio that invests in individual stocks and bonds, as well as property funds.

The stated aim of this fund is to generate a growing level of income over any three year period, as well as capital growth of 2-4%, on average, each year over the same time.

Many of these types of funds can be found in the IA Mixed Investment 20%-60% shares sector, which is for portfolios having 20% to 60% invested in equities and at least 30% in fixed income.

Other funds in the 20%-60% sector that might fit the bill are Ninety One Global Income Opportunities, Waverton Multi-Asset Income, and Aegon Diversified Monthly Income.

Multi-asset funds can also be found in the IA Mixed Investment 0%-35% sector – usually billed as lower-risk as only 35% can be invested in equities – and the IA Mixed Investment 40%-85% sector. The funds in the latter sector are usually considered the highest risk within the multi-asset sector because they can invest up to 85% in equities, although they may invest as little as 40%.

Research all Elite Rated Multi-Asset funds here

Multi-manager options

If you agree that greater diversification helps to reduce risk, then opting for a multi-manager style portfolio could meet your needs.

Rather than investing in individual stocks, managers of these portfolios will buy into other investment funds. Here, you will be buying the expertise of even more professionals. However, the fees charged for these funds-of-funds products by investment houses can be higher so do your homework before committing your money.

One such fund we like is Jupiter Merlin Income, which is managed by one of the most established and well-respected teams in the industry. This fund combines funds focusing on areas such as UK equities, fixed income, global equities, and Japanese equities*.

Embracing fixed income

A popular way to reduce risk is by embracing fixed income funds or increasing exposure if this asset class already has a place in your portfolio.

Cautious investors often put money into such portfolios when they’re concerned about the economic or political backdrop. However, these funds can vary in terms of the bonds they buy and the risks taken. That’s why it can make sense to opt for one in which the manager has plenty of flexibility.

For example, managers Torcail Stewart and Lesley Dunn have the freedom to source ideas from investment grade and high yield bonds for their Baillie Gifford Strategic Bond fund.

Their approach is to add value through their stock-picking prowess, rather than aggressively managing the interest rate exposure.

Other fund options in this area include Nomura Global Dynamic Bond, GAM Star Credit Opportunities, and Jupiter Strategic Bond.

* Source: fund factsheet, 30 June 2023

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