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Determining the right allocation between Australian and international shares ASSYAT DAVID Strategy Steps THIS ARTICLE IS WORTH

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Includes • Determining a client’s SAA • Key considerations in the allocation of shares • Client’s investment drivers • Adjusting a client’s

The asset allocation decision is well recognised as a key driver for a client’s returns. This includes the mix between Australian and international shares. This article provides a practical approach for advisers on working through the issues and considerations that will determine the recommendations made to clients. It also provides information and details on the key considerations that drive the outcome as to the appropriate allocation between these two asset classes. At times clients may place undue emphasis on the historical performance of Australian and international shares when deciding on the allocation made to these asset classes. This may result in the client making less informed decisions that affect the future outcome of their portfolio. Advisers can help clients recognise the key drivers and considerations affecting this decision and applying these to the client’s specific circumstances and

objectives. In this way the adviser can give the client comfort they are making an informed decision that fits with their specific needs. The decision-making approach can be summarised as follows:

Step 1: The SAA allocation The Strategic Asset Allocation (SAA) decision is commonly based on the client’s risk profile. The allocation between Australian and international shares is included in this SAA. The proportions between these two asset classes may vary for different risk profiles.

Step 2: Key considerations There are a number of issues that a client may consider when determining the mix between Australian and international shares. A summary of this checklist is provided below. Details on the specific issues are then discussed later in this article.

Understanding Australian and international share performance Over time there will generally be a

difference in the performance of international and domestic shares. A number of factors drive this difference in performance including different country economic growth rates, political issues, legislative changes, consumer and investor sentiment, market valuations and sovereign debt problems. Chart 1 shows the performance of Australian and international (unhedged and hedged) shares total return over rolling five years between June 1997 and June 2011. A five year rolling return was used because this is generally the investment time period recommended by investment specialists for investments in shares. In the last eight years, the rolling five year performance from Australian shares (as measured by the S&P/ASX 300 Accumulation Index) outperformed both unhedged and hedged international shares. However, international shares (unhedged) outperformed Australian

Table 1: Key considerations

SAA Issue Understanding historical performance Client/portfolio drivers Client’s existing exposure to Australian economy and markets Risk: • Diversification • Volatility of returns Tax benefits Comfort/familiarity Cost Market efficiency Manager’s investment approach Outlook for share markets and currency

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Consideration • Understanding the historical performance of Australian and international shares • Impact of currency on performance Client’s objectives (e.g. income, tax benefits, growth, diversification) may favour Australian or international shares • Property, cash, other assets • Small business ownership • Human capital • Diversification from international exposure • Volatility of currency Franking credits from Australian shares Known Australian companies Active versus index/ETF funds Ability for active managers to out-perform Absolute return, broad based, overweighting to emerging markets and small companies May affect tactical or short-term investment positions

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