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4 defensive investing strategies

Christine St Anne  |  07 Dec 2012Text size  Decrease  Increase  |  

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Christine St Anne is Morningstar's online editor.


As the term suggests, defensive investing means investing in strategies that will minimise the loss of capital in your portfolio.

A lot depends on how you apply defensive investing to your portfolio. A defensive strategy in relation to asset allocation is about investing in assets such as bonds and gold. These assets are distinct from growth assets such as equities and are aimed at delivering uncorrelated returns to an equity portfolio.

For the purposes of this article, we are going to look at defensive strategies in relation to the growth allocation of your portfolio, that is, the equities component.

While these defensive strategies invest in equities - which are normally perceived as growth assets - they have the defensive characteristics that give investors certain protection against volatile markets.

Morningstar senior research analyst Julian Robertson has identified a number of these defensive strategies that investors can use. These include investing in infrastructure funds, equity income funds, property funds, and Australian equity fund managers that employ defensive-style strategies.

1. Infrastructure funds

Infrastructure funds invest in listed infrastructure companies such as utilities, toll road operators and airport operators. These companies include Transurban Group (TCL), Sydney Airport (SYD) and Asciano Limited (AIO).

Many of these funds also invest in global listed infrastructure stocks, including TransCanada Corporation and UK water company Serven Trent PLC.

Funds that invest in these strategies include the RARE Infrastructure Value Fund [14651], the Magellan Infrastructure Fund [15700] and the Colonial First State Global Listed Infrastructure Fund [15889].

"The demand and revenue characteristics of infrastructure assets often make them uniquely insulated from market and economic conditions," Robertson says.

"Many infrastructure assets, such as electrical utilities and toll roads, provide essential services that businesses and consumers are likely to continue to pay for even when they suffer economic hardship," he says.

Listed infrastructure is also expected to give investors above-average distribution yields. While these funds are defensive because of their ability to cushion a portfolio during bear markets, Robertson says some of these funds can be affected by the interest-rate cycle and so are not purely defensive.

He says investors should also be mindful of whether or not the global infrastructure funds are hedged or unhedged.

"As some of these funds are hedged, they did get hit during the global financial crisis. So, investors need to understand the currency issues when investing in these strategies," Robertson says.

While yields have been attractive, Robertson says they have come down of late.

2. Equity-income funds

In the article 5 yield alternatives to term deposits, it is explained how equity income funds focus on high-yielding stocks, but also use a buy-write strategy to maintain a consistent level of income. A buy-write strategy uses tools such as call options.

These strategies include the Merlon Australian Equity Income Fund [855], the CFS Equity Income Fund and the Denning Pryce Equity Income Fund [14289].

The buy-write strategies used by these funds ensure a certainty of income and protection in the portfolio when share prices fall.