What Is Portfolio Management?

Building a diverse portfolio is one of the tried and true ways to mitigate risk and maintain your wealth; however, as you gather more assets of varying types and values, your finances will inevitably become more complex. In this case, it often makes sense to seek out a professional who can help you manage your investments.

Portfolio management is one of the primary tasks a financial advisor can perform. In this article, we’ll explain what that looks like and outline the types of professionals who specialize in managing client investments. We’ll also offer some insight into the various strategies an advisory expert may employ to manage a diverse collection of assets.

Portfolio Management Basics

Portfolio management is the multi-faceted practice of handling and forecasting investments and making critical decisions on what a client should buy or sell. It also involves putting plans in action to minimize risks while simultaneously maximizing returns. Those who manage portfolios may offer services to both corporations and individual clients.

When you hire the services of a portfolio manager, you can expect them to work closely with you to identify goals you’d like to achieve. They’ll assess your holistic financial picture (i.e., assets, debts, your age, etc.) and ascertain your risk tolerance. These discussions will help them decide which strategies will produce the best results.

This process can look much different for high-net-worth clients than it does for those with average portfolios. According to Jon Morgan, CEO of Venture Smarter, while some may “prioritize more conventional investment vehicles and simpler tax-efficient strategies,” wealthier clients often require substantially more intricate tactics. He describes, “For high-net-worth clients, the focus often extends beyond basic wealth preservation and growth to include complex strategies involving tax optimization, estate planning, and legacy considerations. High-net-worth portfolios may also involve alternative investments, private equity, and direct investments in addition to traditional asset classes.”

Portfolio management is often an ongoing arrangement. Over time, you and your advisor will evaluate performance, including ways to rebalance and keep your investments on track. If your progress has strayed away from your original objectives, they’ll help implement risk management techniques and offer advice on which assets to retain or part with.

Types of Portfolio Management

Portfolio management strategies generally fall under being either active or passive. Both have their benefits and disadvantages. Therefore, the one that’s right for you will ultimately depend on factors like your needs, goals, and appetite for risk.

Below is a breakdown of the two:

Active

Under an active approach, a manager will diligently help you maximize your gains. Per Morgan, managers who follow this strategy “aim to outperform the market by conducting extensive research, frequently adjusting the portfolio, and making investment decisions based on their insights.” Professionals will consistently need to be well-read on the latest market trends and must trade assets, such as stocks or bonds, accordingly.

Exceeding market expectations, however, is easier said than done. There’s always a chance that the assets you or your advisor pick won’t perform as expected, leading to losses. It’s also possible that the market could experience volatility, which could put you in danger of being in a bad spot if you can’t sell certain assets.

It’s also important to note that active management can be expensive. This is because these experts must spend significant time researching and helping you take care of your portfolio to ensure it follows a positive trajectory.

Passive

Passive management is a hands-off approach where you try to keep pace with a broad market index. As the name suggests, it doesn’t require extensive research on which investments to buy or sell to make the most money. Morgan highlights that this method normally comes with “minimal adjustments” and usually consists of purchasing shares of “exchange-traded funds (ETFs) or index funds.” These types of funds, such as those that track the S&P 500, often follow the generally positive trajectory of the market.

Because less time is spent selecting investments, passive management typically comes at a lower cost. The only main drawback is that you wouldn’t see the kind of returns you would if you were actively trying to stay ahead of the market.

Portfolio Management Strategies

Professionals may utilize a range of strategies while working with a client’s portfolio. Here are the most common:

• Buy and hold. Instead of actively trading to earn short-term gains, this strategy involves hanging on to securities for an extended period to eventually reap the benefits of long-term appreciation.
• Diversification. This strategy aspires to minimize risk by spreading investments across several asset classes and industries.
• Asset allocation. This method, like diversification, focuses on varying the types of assets in one’s portfolio to minimize risk.
• Income. This is when you put together a collection of investments, like stocks, bonds, or real estate, that generate income from dividends or interest.
• Tax optimization. This approach endeavors to minimize tax losses while maximizing returns. It often includes investing in tax-advantaged retirement accounts such as Roth IRAs and 401(k)s or using strategies like tax-loss harvesting.

Before judging the most effective plan for your assets, your advisor should work with you to fully comprehend your investment preferences and short- and long-term goals. Morgan notes that an expert will apply “a blend of quantitative analysis, qualitative judgment, and market insights, aiming to strike a balance between risk and potential returns” to zero in on the strategies that best suit you.

Discretionary vs. Non-Discretionary Management

When working with an investment manager, it’s key to understand how much is on the line. In essence, you’re trusting the knowledge of another person or firm to guide your finances and, by extension, you in the right direction. So, it’s important to understand the distinction between a discretionary and non-discretionary professional. In simplest terms, this refers to how much power they wield to make decisions and act on your behalf.

A discretionary professional has the most freedom. Specifically, these have the agency to select securities and initiate trades on your behalf. What’s more, they don’t have to consult you for approval. Under this arrangement, you’re putting a high level of trust in your manager to make the best decisions. It’s important to note, though, that they must still prioritize the guidelines and goals you’ve set and act in your best interest.

Non-discretionary experts, conversely, still select investments and make decisions; however, they must consult your opinion first. Under this relationship, you have the final say with your finances and maintain transparency.

It’s smart to carefully consider which style would work best for you. You may even want to meet with another financial advisor to gain further clarity on the benefits and drawbacks of each. But, in a nutshell, if you want more control, non-discretionary is likely the more attractive option. If you prefer taking your hands off and letting professionals oversee your investments, a discretionary set-up may be ideal.

Frequently Asked Questions

Do you need a CFA to be a portfolio manager?

Due to their heightened level of expertise, especially with investment analysis, chartered financial analysts (CFAs) often end up in the role. While their education makes them effective, this doesn’t mean all portfolio managers must be CFAs. Asset managers may also carry the following certifications:

• Certified Financial Planner (CFP)
• Chartered Portfolio Manager (CPM)
• Certified Investment Management Analyst (CIMA)
• Chartered Alternative Investment Analyst (CAIA)

What is the difference between a portfolio manager and a financial planner?

Portfolio managers and financial planners differ primarily in the scope of the services they provide. While both must assess your entire monetary situation, planners may help you with needs beyond just the investments in your portfolio. They could assist with taxes, insurance, buying a house, etc.

Which type of portfolio management is best, active or passive?

The best type of management heavily relies on your overall objectives and current situation. An active style may work better for those with a higher risk tolerance, as well as more money to work with. An example might be someone with less to lose in the short term, such as a young investor. If they haven’t built up a substantial portfolio, they have more freedom to take risks and pick themselves back up if they experience losses.

Passive management could be ideal for people with more to lose and those who prefer dealing with less risk. For instance, if you’re retired and have accumulated a decent nest egg, it makes less sense to actively invest in volatile stocks. This is because you likely don’t have the same time horizon to recover from losses as you would if you were, say, in your thirties.