Managing the total portfolio: An integrated approach 

To effectively achieve their goals, investors can benefit from utilising a consistent framework that enables them to implement comprehensive portfolio solutions.

At Mercer, we work with a wide range of investors with differing objectives, constraints and governance models. Depending on their requirements, we work with them in different ways — from traditional, consultant-led advice to fully discretionary investment management services.  But for all our clients, our goal is the same: to help them to identify and achieve their investment objectives.

We apply a consistent framework for building total portfolio solutions to achieve these objectives. The first stage in the process is to define the investment objectives. This enables us to identify the overall investment approach that will work best, which differs depending on the investor’s time horizon, perspective on risk and return requirements. We then identify the strategic asset allocation (SAA) that is consistent with the client’s objectives and constraints.  Next, we incorporate dynamic asset allocation (DAA), adding shorter-term views to enhance the strategic framework. Finally, we focus on manager selection at the asset class level.

Of course, any investment approach will have its challenges. The investment opportunity set is wider than ever — across the range of listed assets, private markets and alternative investment strategies — and continually evolving. Not all investment opportunities fit neatly into traditional asset class buckets. Some opportunities are one-off in nature rather than a permanent strategic position; but they are expected to be held to maturity, so not a purely dynamic allocation. And for other investments, it may be difficult to separate the manager selection and asset class elements of the decision (i.e., “beta” from “alpha”).

Given these complexities, one might conclude that a top-down SAA framework is insufficient and propose a bottom-up, unconstrained approach, where every investment is assessed on its individual merits. However, while we agree that no investment should be dismissed due to categorisation difficulties, we believe these challenges do not justify abandoning strategic asset allocation. If anything, this would create more problems than it solves — without an overall structure in mind, the portfolio risks becoming a collection of individual holdings (each of which were at one point compelling) rather than a coherent whole. 

Ultimately, we find it most effective to adopt an SAA, defined by asset class (for ease of communication), as a core part of the investment process, supplemented by manager selection and DAA. Asset allocation weights, derived from the portfolio construction process, consider the full opportunity set and focus on the portfolio’s overall requirements. While defined by asset class, the portfolios we build integrate the mix of “factor” exposures that we believe are appropriate, and we remain alert to the risk and return characteristics and market sensitivities of the total portfolio. We are not constrained by asset class categorisations; these are simply a means of communicating the results in a form that’s clear and can be implemented in practice.

We believe the discipline, clarity and accountability of this framework outweigh the risk of missing investments that don’t fit into traditional asset class silos or the existing SAA. Mitigating this risk requires cultural alignment across investment teams and effective governance, incorporating risk budgeting and total portfolio exposure analysis. This is not always easy, but we believe it worthwhile because by combining specialist skills with effective governance, we can deliver a total that is greater than the sum of the parts.