Your portfolio may be diversified. But is every holding earning its place?

If you removed one satellite holding from your portfolio, would client outcomes change?

It’s an uncomfortable question, because a lot of thought and governance goes into satellite selection. But it’s one every adviser should be asking.

Vanguard’s latest Portfolio Trends report, which analysed over 100 adviser portfolios, shows advisers are embracing core-satellite investing with a healthy mix of indexed and active allocations.

However, it also points to risks in portfolio construction when some holdings don’t have clearly defined and distinct roles.

Combine the best, don’t add the rest

When I ask advisers about their views on indexing versus active, I’m met with bemused expressions.

The advice profession has long-since moved on from the old active-index debate of the past. Advisers are adopting a more sophisticated approach that combines the best of both.

Across the adviser portfolios assessed, our Portfolio Trends report observed an active/index split of 49 per cent and 44 per cent, respectively.

Typically, advisers use indexing as a broad, low-cost foundation, with active strategies that have a clear role and a reasonable prospect of adding value after fees.

The average adviser portfolio has a healthy active/index split

However, with an expanded opportunity set comes the temptation to add more holdings to the portfolio.

A manager might be added to gain exposure to a particular market segment of factor exposure. Another might be introduced to add potential downside protection in different market conditions. Specialist strategies might be added around the edges. Thematic strategies emerge that offer exposure to compelling global trends.

Eventually, a portfolio can shift from its original, deliberate design into a collection of holdings pulling in different directions.

Too many portfolio satellites can lead to ‘diworsification’

More holdings don’t necessarily mean more diversification. It can just as easily lead to what legendary investor Peter Lynch called “diworsification”.

Most portfolios use satellites wisely, but there’s a long tail of practices that add them too freely and without a clear purpose.

The Portfolio Trends research found adviser portfolios held an average of eight satellite exposures and a median of six.

Some portfolios carry more than eight satellites, leading to potentially overlapping exposures, style drift, and unnecessary complexity.

More than eight satellites could drag on portfolio performance

The strongest implementations in our research were often not the most complex. They were those where advisers made deliberate choices, asking:

• What belongs in the core?
• Why does each satellite exist?
• How much active risk are clients comfortable with?

A useful test is to give every satellite a job description: what does it contribute that the rest of the portfolio does not, and is that benefit sufficient to justify its fees, governance and monitoring requirements?

Make every holding earn its place with a clear, repeatable portfolio framework

A strong core-satellite approach starts with a clear investment philosophy and a set of rules that can be applied consistently across clients.

That framework needs to be repeatable. Advisers should be able to explain why each satellite is included, what outcome it’s intended to support, and the conditions under which it would be reviewed or removed.

It also needs to be scalable. A disciplined portfolio architecture can reduce one-off decisions, simplify governance and monitoring, and help deliver a more consistent investment experience as an advice practice serves more clients.

Clear rules help ensure each holding earns its place and that the overall approach remains consistent, repeatable and scalable.

This thinking was one of the drivers behind Vanguard’s partnership with Lonsec Investment Solutions (LIS).

The Vanguard Core-Satellite Portfolios with LIS are designed around a simple idea: investors benefit when active and index exposures are combined deliberately rather than accumulated opportunistically.

The portfolios blend Vanguard’s strategic asset allocation and indexing expertise with LIS’s active manager research and selection capabilities, helping advisers access both active and index exposures within a single professionally managed framework.

From portfolio discipline to business discipline

The discussion around diversification and complexity doesn’t stop at the portfolio level. It also applies to advice businesses.

As advice increasingly expands into retirement planning, tax management, estate planning, aged care and intergenerational wealth transfer, advisers face a different challenge: how to deliver a consistent investment experience while scaling advice to more clients.

A repeatable portfolio process can help reduce implementation variability, strengthen governance, and create a more consistent client experience across your advice practice.

It can also reduce key-person risk by ensuring portfolio decisions are driven by an investment philosophy and framework rather than the judgement of any one individual.

This is one reason managed accounts continue to gain momentum. Advisers remain responsible for strategic asset allocation, portfolio oversight and client outcomes, but many are increasingly choosing to outsource elements of implementation so they can spend more time on the areas where they create the greatest value: strategy, behavioural coaching and client relationships.

A better portfolio construction question

The best portfolios aren’t necessarily the most complex. They’re the ones where every holding has a clear purpose and every decision supports a defined client outcome.

Achieving that consistently requires more than good investment selection. It requires a disciplined core-satellite process that defines what belongs in the core, sets clear criteria for adding and reviewing satellites, and can be repeated across clients and through changing markets.

When that process is clear, repeatable and scalable, it can help advisers avoid diworsification, strengthen governance and deliver a more consistent client experience as their practice grows.

The better portfolio construction question is not how many investments a portfolio holds, but whether each one earns its place within a framework built to create lasting value.