Partner Insight: Vanguard — why discipline is key for multi-asset investors

With the macroeconomic outlook evolving and further volatility across global asset markets in 2023 likely, multi-asset investors might be tempted to make tactical changes to their portfolio to avoid losses or maximise gains.

While not all multi-asset portfolios are created equal, a low-cost portfolio with a strategic allocation to global equities and global bonds should serve long-term investors well through various economic and market conditions.

The key to realising the benefits of this approach is maintaining discipline. That means sticking to your long-term strategy during economic downturns and volatile markets, as well as rebalancing your portfolio regularly to manage risk.
In this article, we explore the importance of maintaining discipline for multi-asset investors with three key charts that might help clients focus on their long-term strategy.

Don't let turbulence distract you: focus on the long-term

Tighter monetary policy could see further volatility in global equity markets in the near-term as businesses grapple with more challenging trading conditions.

History suggests that investors who ride out the volatility and stick with their strategic allocation to global stock markets are likely to be rewarded for their patience.

As the chart below shows, periods of heightened volatility are short-lived in comparison to the longer-term growth that global stock markets have historically delivered.

Volatility and index prices of the MSCI AC World Index

Past performance is not a reliable indicator of future results.
Source: Vanguard calculations in GBP, based on data from Refinitiv, as at 22 March 2023. Notes: The chart shows the trailing 30 business day volatility of daily returns (LHS) and the price index (RHS) of the MSCI World Price Index from 1 January 1982 to 31 December 1987 and the MSCI AC World Price Index thereafter.

Some investors might be tempted to time the markets by withdrawing to cash when markets get choppy and then reinvest when economic conditions are more supportive and markets less volatile. The problem with this approach is that the best and worst trading days often occur close together, irrespective of the overall direction of markets. The next chart demonstrates this point, showing the 20 best and worst trading days between 1980 and the first quarter of 2023.

Timing the market is futile

Past performance is not a reliable indicator of future results.
Source: Vanguard calculations in GBP, based on data from Refinitiv, as at 22 March 2023. Notes: The chart shows daily returns of the MSCI World Price Index from 1 January 1980 to 31 December 1987 and the MSCI AC World Price Index thereafter. The yellow bars highlight the 20 best trading days since 1 January 1980 and the tale bars highlight the 20 worst trading days since 1 January 1980.

The message for investors we think is clear: that staying invested and participating in global stock markets over the long-term offers investors a better chance of achieving their financial goals than trying to tactically time stock market investments.

The importance of regular portfolio rebalancing

Being disciplined as a multi-asset investor doesn't simply mean staying invested when markets get choppy; multi-asset portfolios should be rebalanced regularly according to an investor's goals and tolerance for risk.

Periods of heightened volatility can accelerate portfolio drift, whereby the better performing assets in a portfolio - typically equities - grow beyond the target allocation for the portfolio. For example, a portfolio with 60% equities and 40% fixed income at the end of 2003, if never rebalanced, would have had 80% in equities by 2022, as shown in the chart below. In contrast, an identical portfolio that is rebalanced at the end of each quarter maintains the intended allocation and the preferred risk profile.

Past performance is not a reliable indicator of future results
Sources: Vanguard, using data from Bloomberg. Notes: Daily returns data from 1 January 2003 to 10 February 2022. The initial allocation for both portfolios is 42% US stocks, 18% international stocks, and 40% US bonds. The rebalanced portfolio is returned to this allocation at the start of each quarter. Returns for the US stock allocation are based on the Dow Jones US Total Stock Market Index until April 2005 and on the MSCI US Broad Market Index thereafter. Returns for the international stock allocation are based on the MSCI All Country World Index ex USA and returns for the bond allocation are based on the Bloomberg US Aggregate Bond Index. All returns calculated in USD.

Vanguard rebalances our index multi-asset solutions on behalf of investors and there are a number of rebalancing rules available to investors. Before we examine the different strategies, it's important to note that the primary function of portfolio rebalancing is to keep client investments aligned with their tolerance for risk - not to maximise returns.

Rebalancing options for advisers

The rebalanced portfolio in the chart above uses a simple time-only rebalancing strategy, but other approaches are available to advisers. A time-only strategy will rebalance on a given date, regardless of the relative performance of the portfolio's component assets. In a threshold-only strategy, rebalancing is triggered when a portfolio's asset allocation has drifted by a given amount, say by five percentage points, irrespective of how often this happens - and it may happen a lot when markets get choppy.

A strategy combining the two will monitor the portfolio on a given schedule and have pre-set thresholds, but rebalancing will only occur when the two trigger-points cross. Here's a simple breakdown of three common approaches to rebalancing:

Time only: rebalancing on a set schedule, such as daily, monthly, quarterly, or annually.
Threshold only: rebalancing when a target asset allocation deviates by a predetermined amount, such as 1, 5, or 10 percentage points.
Time and threshold: rebalancing on a set schedule, but only if a target asset allocation deviates by a predetermined amount, such as 1, 5, or 10 percentage points.

Our analysis has found that none of the major rebalancing approaches holds a distinct or enduring advantage over the others.¹ Vanguard's index multi-asset solutions are rebalanced daily, while our multi-asset model portfolios are rebalanced quarterly, with both approaches primarily aiming to minimise transaction costs - a proven drag on returns². Our index multi-asset funds also incorporate a threshold approach, using daily cash flows as an additional lever to rebalance back to target allocations.

Ultimately, the rebalancing service that advisers receive with Vanguard's multi-asset solutions saves time and effort when it comes to ongoing portfolio management. Instead of constantly monitoring and rebalancing client investments manually, Vanguard's multi-asset funds and model portfolios are, from an adviser's perspective, rebalanced automatically, freeing up time to focus on other higher value tasks.

This post is funded by Vanguard

¹ Source: Vanguard calculations, based on data from FactSet. For further information, see Zilbering. Y., C.M. Jaconetti, and F.M. Kinniry. "Best practices for portfolio rebalancing", Vanguard Research, November 2015. Notes: Comparison of average annualised returns for time-only (at monthly, quarterly, and annual frequencies), threshold-only (after 1%, 5%, and 10% drift), and threshold-and-time (combining time and threshold frequencies) rebalancing strategies on a hypothetical portfolio consisting of 50% global equities and 50% global bonds between 1926 and 2014. No new contributions or withdrawals. Dividend payments were reinvested in equities and interest payments reinvested in bonds. Excluding costs. Global equities were defined as the Standard & Poor's 90 from 1926 until 3 March 1957; the S&P 500 Index from 4 March 1957 until 31 December 1969; the MSCI World Index from 1 January 1970 until 31 December 1987; the MSCI All Country World Index from 1 January 1988 until 31 May 1994; and the MSCI AC World IMI Index from 1 June 1994 until 31 December 2014. Global bonds were defined as the S&P High Grade Corporate Index from January 1926 until 31 December 1968; the Citigroup High Grade Index from 1 January 1969 until 31 December 1972; the Lehman Long-Term AA Corporate Index from 1 January 1973 until 31 December 1975; the Barclays U.S. Aggregate Bond Index from 1 January 1976 until 31 December 1989; and the Barclays Global Aggregate Bond Index (USD hedged) from 1 January 1990 until 31 December 2014.

² See Dr. Lawrence. S., and Dr Plagge. J. "The case for low-cost index fund investing", Vanguard research, May 2023. Notes: comparison of index and active fund excess returns after costs.

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Past performance is not a reliable indicator of future results.

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