There's a deep satisfaction some people get from spending their days following the market, reading financial statements and updating their spreadsheets. But for the rest of us, we don't have the time, nor the inclination, to study the markets and make tactical changes to take advantage of perceived market pricing anomalies. Luckily, building long-term wealth doesn't have to be complicated.

Simple doesn't have to mean bad. A good margarita pizza with clean, high-quality, well-balanced ingredients can be just as good if not better than a BBQ meats deluxe with Peking duck and beef brisket. A study undertaken by Morningstar found that portfolios frozen in time tended to beat the returns of the actual portfolios, which reflected the fund managers’ trading activity. In other words, the funds would have performed better had the managers done nothing.

Another reason to take a hands-off tack with your investments is to minimise stress. If you limit your check-ups to a simple annual review, you’re less likely to sweat small market movements because you won’t see them reflected in your net worth.

Last, there may be periods in your life when you’re unwilling or unable to spend much time on your portfolio, because of time constraints or, perhaps later in life, health considerations.

Crafting an ultra-low-maintenance portfolio helps ensure that nothing catastrophic would happen if you were unable to check in with your portfolio for a year or even longer.

Assuming you’ve taken care with your starting strategic asset allocation (a mix between growth and defensive assets) and have selected low-cost, high-quality investments to populate your portfolio, too frequent monkeying around could lead to worse results than sitting still.

Trading also has the potential to jack up transaction costs, which drag on returns.

In this three-part series, we'll walk through the steps of building a long-term, no-fuss portfolio:

Part 1

  • Defining your financial goals – or why are you investing?
  • Setting your asset allocation – time horizon, risk tolerance, personal circumstances
  • Thinking about risk

Part 2

  • Populate your portfolio with low-cost, well diversified building blocks
  • Execute your trades
  • Schedule quarterly maintenance

While some investors swear by frequent monitoring and rebalancing tweaks, I’ll take a policy of benign neglect any old day.

Define your financial goals

Too often first-time investors come to me and ask, “what stock should I buy?” or “should I put it all on Afterpay?”. I think that's the wrong question to ask. If you haven't thought about “why” you're investing, how much you can invest and what your financial goals are, you're setting yourself up for disaster. Dull, yes. Difficult, yes. But smart? Yes. Establishing financial goals makes the task of putting together a portfolio and managing it that much easier.

What are financial goals? Financial goals are objectives or milestones that you want your money to cover. New grads might be saving for a home, car or weddings; new parents are saving for their own retirements and school or their kids.

For example, let's say I have $10,000 sitting in savings. I want to put it towards buying a $800,000 property with my partner before I'm 40. I can contribute an additional $400 to savings every month. My financial goal is $80,000 (half of 20 per cent deposit) and the time I have to invest is 10 years. I used Morningstar's goal planner to calculate that if inflation is running at 2 per cent, my minimum required rate of annual return is 8.7 per cent.

Morningstar Required Rate of Return Calculator

Source: Morningstar Premium

Without clearly articulated goals, it's impossible to know how much you should be saving and investing, or how long you’ll need to do so. Nor can you know whether a specific goal is even achievable alongside other goals you might set. Quantifying those goals can be difficult. Retirement costs, for example, can vary even more dramatically, depending not just on planned in-retirement lifestyle considerations but crucially on the retiree's own life span.


Set your asset allocation

Now that we have our goal(s), we can create a blueprint for our portfolio. The starting point for creating a low-cost, low-maintenance portfolio is to give due consideration to your asset allocation. That decision, more than security selection, will have by far the biggest impact on how your portfolio behaves in the future.

A popular and effective way of segmenting your investments is the "core and satellite" approach. Here, you might categorise 80 per cent of your overall portfolio as the "core" and the remaining 20 per cent as the "satellite". The satellite portion of the portfolio is where to express your tactical views on the market. Examples might include opportunistic investments like overweighting a particular sector or theme like lithium or global tech, or portfolio tilts like focusing on yield. On the other hand, your core portfolio - which is the focus of this article - should be invested according to your financial goals. In simple terms, this means defining the balance in your portfolio between risk and return where your assets classes – stocks, bonds, property etc – are weighted according to your objectives.

For example, if I want to retire in 40 years, I have a very different set of financial goals and feeling towards taking on financial risk than my father at age 70. I would most likely seek out more growth investments like stocks as I can withstand the volatility than Dad who is protecting his remaining assets for retirement.

For the core segment of the portfolio (80 per cent), how do you choose how much you want to invest in growth assets vs defensive assets? Morningstar Australia has five growth/defensive asset allocation models related to five different levels of risk: Conservative, Cautious, Balanced, Growth and Aggressive.

The models are constructed using a set of investment objectives and time horizons that differentiate across the risk/return spectrum.

Here are three of the five profiles:

  • Moderate – 70% income assets, 30% growth assets – with a 3-year time horizon
  • Balanced - 50% income assets, 50% growth assets – with a 5-year time horizon
  • Growth - 30% income assets, 30% growth assets – with a 7-year time horizon
Morningstar Asset Allocation Models

Source: Morningstar Premium

Several other providers also issue guidelines including Vanguard US, Morningstar US, The Collage Investor.

How you split your assets is a personal decision. When setting your asset allocation, it's important to think through your risk capacity and risk tolerance. Risk capacity relates to how much risk you can afford to take, given your proximity to spending from your portfolio, whereas risk tolerance refers to how much volatility you can psychologically and emotionally tolerate. Beyond financial goal and time horizon, Morningstar direct of personal finance Christine Benz says there are several "swing factors" that you should consider when customising your own life circumstances:

  • Human capital: thinking about your personal career path, is your income steady or fluctuating? A person with tenure has bond like human capital – reliable, steady stream of income and a pension. Therefore, they could keep more in equity holdings. At the other extreme, a person whose income depends on market performance – e.g commissions has more equity like capital. They may want to consider having more in bonds to address shortfalls or periodic interruptions.
  • Do you have other sources of income in retirement – e.g pension
  • How much you've saved? If the answer is not much, may want to consider going harder on equities to be able to reach goals, but don't go overboard.
  • Risk capacity: We are not great judgement of our own risk. But if you know you're a person inclined to panic during volatility, maybe consider putting more in defensive assets. It's not a good asset allocation if it keeps you up at night or if you retreat to more conservative holdings at an inopportune time.
  • Do you have a desire to leave a legacy for children/grandchildren?


A quick thought on risk

When it comes to determining our asset allocation, as discussed above we start out by looking at suggested allocations before considering our own financial goals, time horizon and risk tolerance. But what is risk?

Morningstar's Benz says the most intuitive definition of risk is the chance that you won't be able to meet your financial goals and obligations or that you'll have to recalibrate your goals because your investment kitty comes up short. This, she says, is different to volatility which refers to price fluctuations in a security, portfolio, or market segment during a fairly short time period - a day, a month, a year. Such fluctuations are inevitable once you venture beyond your savings account. "If you're not selling anytime soon, volatility isn't a problem and can even be your friend, enabling you to buy more of a security when it's at a low ebb.

Benz says through this lens, risk should be the real worry for investors; volatility, not so much.

"A real risk? Having to move in with your kids because you don't have enough money to live on your own. Volatility? Noise on the evening news, and maybe a frosty cocktail on the night the market drops 300 points," she says.

How can we determine our own risk tolerance? There are standard risk-assessment questionnaires that you'll find all over the web. However, Benz says they're not all that productive.

"For starters, most investors are poor judges of their own risk tolerance, feeling more risk-resilient when the market is sailing along and becoming more risk-averse after periods of sustained losses like the ones the market has been logging lately," she says.

"Moreover, such questionnaires send the incorrect message that it's OK to inject your own emotion into the investment process, thereby upending what might have been a carefully laid investment plan.

"But perhaps most important, focusing on an investor's response to short-term losses inappropriately confuses risk and volatility."

Instead, she says investors should acknowledge that volatility is inevitable and realise that if they have a long enough time horizon, they should be able to harness it for their own benefit. If risk is a key concern, diversifying among different asset classes and investment styles can also go a long way toward muting the volatility of an investment that's volatile on a stand-alone basis. "That can make your portfolio less volatile and easier to live with," Benz says.

It also helps to articulate your real risks: your financial goals and the possibility of falling short of them. Lastly, Benz recommends giving some thought to what's an appropriate stock/bond/cash mix for each of those goals/risks. "If you have shorter- or intermediate-term goals, a more conservative asset allocation will be appropriate," she says.

Morningstar product manager, individual investor Mark LaMonica reminds us that volatility is a real risk, but that investor should also consider the risk of not achieving their goals when they consider their own risk capacity.

"It can be devastating if a large decline in value occurs right before you need your investments to pay for your goal," he says.

"But as a long-term investor you should be less concerned with how much your portfolio is going to bounce around in value and more concerned if your portfolio has been designed to give you a reasonable chance to achieve your goal."

"That is how we prefer to think about risk at Morningstar. The real risk that you face is failing to achieve your goal."


For simplicity, in the next part in this series we'll look at investment to fill a balanced portfolio that holds 50 per cent of its core in growth assets like stocks and 50 per cent in defensive assets like fixed interest.

Several Morningstar researchers contributed to this series including director of personal finance Christine Benz and former strategist, passive strategies John-Gabriel.