I knew a very sharp portfolio manager who used to say, “I re-buy my portfolio every day”! By that, he meant that he regularly checked all the holdings in his portfolio to evaluate what he liked and what he didn’t like. If something had changed, he would evaluate if the portfolio needed a change.
This is a complicated problem at the portfolio level. It is not just ONE holding, but a group of holdings that are all positioned to inter-relate with each other. Ideally, some will zig when others zag, and vice versa. In fact, if we are properly diversified, it is almost a certainty that there will be SOMETHING that has shown disappointing performance, but still serves a place in a portfolio as a diversifier over a longer time frame.
For example, emerging market equities have been on everyone’s list the past few years as an asset class that is “cheap” and ready for a “pop”. As we know, per the chart below, that has not been the case as annualized returns of emerging market equities (SCHE, -0.3%) have struggled and underperformed the U.S. markets (IVV, +8.5%) by a wide margin over the three years since January 2020. However, if you go back a few years to 2017, emerging markets were a legitimate darling that year with a total return of +37.3% besting the U.S. markets return of +21.8%. And also, on a year-to-date basis this year, emerging market equities (SCHE) are up +8.7% beating U.S. large cap (IVV) of +4.2%.
We hold asset classes like emerging market equities because we believe they have a low correlation with core holdings like large cap U.S. equities (IVV) and “will zig when others zag”. In fact, long term correlations of emerging market equities do exhibit that quality with a long term correlation coefficient to U.S. equities of 0.74 over the past 20 years. This is not as low a correlation as core U.S. bonds (AGG) of 0.16, but is still relatively low for the equity space.
As always, we believe that patience will serve long term investors well.