More returns, less risk for your charity’s portfolio

Charitable foundations pursue an objective. To meet their objective, they generally give out some of their income as funding, generating the income they need for this by investing the charity’s assets.

When a charity invests its assets, seve­ral conflic­ting crite­ria need to be met. The first step you take as an inves­tor is to work out your target. This takes the form of expec­ted returns or a risk budget. There are five condi­ti­ons you need to bear in mind here: the invest­ment hori­zon, the need for liqui­dity or regu­lar capi­tal, tax and legal aspects, and indi­vi­dual rest­ric­tions e.g. no invest­ments in tobacco or arms.

The task of a profes­sio­nal asset mana­ger is to achieve your target while respec­ting the condi­ti­ons defi­ned by you.

Dr Uwe Heller, CFA Senior invest­ment stra­te­gist, respon­si­ble for rese­arch and development

The invest­ment stra­tegy for a charity’s portfolio

Usually, chari­ties’ funds are inves­ted in line with a defen­sive stra­tegy. Gene­rally, bonds are the core of a charity’s port­fo­lio, but the returns on bonds have been tumb­ling lower and lower over the past few years. At present, Swiss bonds even gene­rate nega­tive returns, regard­less of their duration.

Have you met T.I.N.A.?

This deve­lo­p­ment begs the ques­tion as to what invest­ments are available as an alter­na­tive to bonds. It’s time to meet ‘T.I.N.A.’. T.I.N.A. stands for ‘There Is No Alter­na­tive’, and suggests that the low-inte­rest rate envi­ron­ment means there is no alter­na­tive to shares.

Recently, many boards of trus­tees have deci­ded to increase the propor­tion of shares in their port­fo­lio. Until now, this was the right decis­ion to make, with prices on the global stock market almost tripling since the 2007/8 finan­cial crisis.

Jean-David von Orelli, Fede­rally certi­fied finan­cial and invest­ment expert, busi­ness deve­lo­p­ment, Drey­fus Banquiers.

Recently, the stock markets are boun­cing from one all-time high to the next, but plenty of inves­tors are alre­ady view­ing this deve­lo­p­ment with suspi­cion. While share prices grew by about five percent per annum in the distant past, these figu­res have almost doubled since the finan­cial crisis. Given this deve­lo­p­ment, it is only fair to ask how long this trend can continue.

It’s hard to pick the right point at which to sell shares: there are an array of early indi­ca­tors that can be harbin­gers of a crisis on the stock market, but they are tricky to identify.

A market anomaly: more returns, less risk

It’s easier to prepare your port­fo­lio for a crisis, even when share prices are shoo­ting skywards. How? By making the most of an anomaly on the finan­cial market.

The tradi­tio­nal theory of the finan­cial markets states that higher (syste­ma­tic) risk (measu­red by the vola­ti­lity of the share price) should be balan­ced out by higher returns. In prac­tice, howe­ver, a diffe­rent pheno­me­non has been obser­ved on the share market for deca­des. Over the long term, shares with low vola­ti­lity gene­rate bigger returns than riskier stocks do (see graphic 1). In expert circles, this stra­tegy is known as ‘mini­mum volatility’. 

The long-term deve­lo­p­ment of a mini­mum vola­ti­lity stra­tegy compared to a global equity index weigh­ted for market cap (MSCI AC World).

Howe­ver, it does come with a catch. When the stock markets are on the up, this stra­tegy often lags behind the market cap index. That said, this defi­cit is more than made up when share prices head southwards. Over­all, inves­tors using a mini­mum vola­ti­lity stra­tegy attain higher returns for less risk, over the long term.

To avoid falling too far behind an index when share prices are incre­asing, it is recom­men­ded that the port­fo­lio includes shares that meet speci­fic quality stan­dards. We recom­mend balan­cing out one-third of quality stocks with two-thirds of mini­mum vola­ti­lity shares.

Look for quality

You should bear three crite­ria in mind when selec­ting these quality stocks: rating, quality and vola­ti­lity. Checking the rating helps you avoid buying over-priced shares. Specia­lists gene­rally define a company’s quality by refe­rence to its consis­tent high profi­ta­bi­lity, as well as aspects such as low levels of debt finan­cing and high opera­tio­nal effi­ci­ency. In terms of vola­ti­lity, make sure not to include compa­nies with parti­cu­larly vola­tile share prices in your portfolio.

If you were putting toge­ther a quality port­fo­lio for the global equity market, you would include well-known indi­vi­dual stocks from Louis Vuit­ton (LVMH) and Novo Nordisk. Tech­no­logy compa­nies from the New Economy, such as Apple, Amazon and Alpha­bet (form­erly Google), also meet the above quality stan­dards. The best Swiss compa­nies, from our perspec­tive, are Emmi, Lonza and Sika.

Diver­sify your portfolio

For reasons of diver­si­fi­ca­tion, it makes sense to add Swiss real estate and gold to your port­fo­lio as an alter­na­tive to shares and bonds.

Inves­t­ing in real estate can either be done directly, in the form of an apart­ment or house, or indi­rectly via real estate shares and funds. This latter option is an essen­tial compo­nent of a charity’s port­fo­lio. The prices for indi­rect invest­ments in real estate have jumped shar­ply recently, but there are still attrac­tively rated stocks out there, such as Nova­vest Real Estate AG or SF Urban Proper­ties AG.

An envi­ron­ment marked by low inte­rest rates and an incre­asing expec­ta­tion of infla­tion is a golden oppor­tu­nity for, well, gold. Gold has always been seen as a safe haven that offers protec­tion for your port­fo­lio. From our perspec­tive, the price of gold looks set to rise again in the fore­seeable future. Howe­ver, you should bear the exch­ange rate risk in mind, given that gold is traded in US dollars. In light of the inte­rest rate diffe­rence between US dollars and Swiss francs at the moment, and the high hedging costs asso­cia­ted with this, we would not curr­ently recom­mend (fully) hedging against the exch­ange rate risk.

In sum, it is clear that the success of a charity’s assets lives and dies by the right stra­tegy, imple­men­ted in a profes­sio­nal, disci­pli­ned way – but don’t forget to keep an eye on the risks at all times. Have you chosen the right stra­tegy? And have you correctly asses­sed the risks you’re facing at the moment?

Ask your finan­cial advisor.

StiftungSchweiz is committed to enabling a modern philanthropy that unites and excites people and has maximum impact with minimal time and effort.

Follow StiftungSchweiz on