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Portfolio > Portfolio Construction

Using Advisors Improves Portfolio Diversification for 90% of Investors: Vanguard

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Using a financial advisor significantly improves investors’ portfolio construction by adding much more diversification, according to a new white paper released Tuesday by Vanguard Research.

The implementation of advice improved portfolio construction for nearly 90% of the more than 44,000 Vanguard self-directed investors who adopted Vanguard Personal Advisor Services between 2014 and 2018, Vanguard researchers Cynthia A. Pagliaro and Stephen P. Utkus found after analyzing the investors’ asset allocations, Vanguard said.

Once added by those investors, the Vanguard advisors addressed equity risk-taking, increased international exposures and reduced cash holdings, the company said.

“Cognitive or behavioral biases, as well as a lack of financial literacy, can lead many individual investors to make common portfolio construction errors,” according to the white paper, The Value of Advice: Improving Portfolio Diversification. “These include taking an undisciplined approach to risk-taking, holding too much cash, or concentrating assets in domestic securities,” it said.

“Advice remedied these common portfolio construction errors and will ultimately improve outcomes for investors,” Pagliaro, senior researcher in Vanguard’s Investment Strategy Group, said in a statement.

Equity risk-taking is the “most fundamental decision an investor makes when constructing a portfolio,” according to Vanguard. Prior to adopting advice, the distribution of equity allocations among investors varied widely, suggesting they were inattentive to or uncertain about appropriate equity risk-taking levels relative to their financial goals, the company said.

More than two-thirds of the investors saw a change of more than 10% in their equity distributions after implementing advice, including 30% who saw their equity allocations increase or decrease by more than 30%, Vanguard said. Only 31% of investors needed a minor equity change of less than 10%, according to the firm.

Relying Too Much on U.S. Equities

In addition to not taking enough risk, investors who don’t use advisors also tend to rely way too much on only U.S. equities. “When investors overweight U.S. equities, they miss out on opportunities to realize the benefits of global diversification,” Vanguard pointed out while announcing the findings of its research.

Before adding advice, 65% of investors had no international allocation at all and 8 in 10 had only 10% or less of their portfolio in investments outside the U.S., according to the firm. However, after adopting advice, the median international allocation jumped from 0% to 35%, it noted.

Meanwhile, although cash is not a strategic allocation, all too many investors hold excessively high levels of it, according to Vanguard. Among the portfolios analyzed, 3 in 10 investors held more than 10% of assets in cash positions before the implementation of advice, while 11% held cash positions of more than 50%, it noted. Advice significantly lowered cash holdings among investors, with most of the assets reallocated to bonds, as the average bond allocation increased from 23% to 37% of the portfolio, Vanguard said.

The white paper marked the second installment in Vanguard’s “Value of Advice” series, following an initial paper that introduced a three-part framework — portfolio, financial, and emotional outcomes — for more comprehensively assessing the value of advice. Subsequent papers focused on the financial and emotional dimensions are expected to follow this year, Vanguard said.

Investors included in the study sample of more than 44,000 investors had a median age of 64 and a median Vanguard tenure of 15 years, the company noted. The median wealth held in the service ranged from $250,000 to $500,000.

“To ensure that we captured the actual portfolio changes, we examined individual investor portfolios six months before and six months after adoption of the service, and we only considered enrolled investors for whom we could observe portfolio attributes in both periods,” the white paper stated. “Portfolio allocations after advice recommendations include only advised assets.”


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