At the heart of goal-based financial planning is the aspect of asset allocation. Once the assets are chosen, the next step is investment choice making. This brings us to the core and satellite portfolio strategy. 

What is a core and satellite portfolio?

Core, as the name suggests, is the mainstay of an investor’s portfolio. For core investments, you would typically not take more risk than the overall risk inherent for that asset class and remain well-diversified

Core portfolio provides stability and is geared to meet important long-term goals such as retirement or sponsoring a child’s higher education. 

Satellites in turn are tactical allocations whereby one takes a relatively higher risk in order to earn higher portfolio returns. However, total investment is smaller here lest it affect the overall portfolio growth keeping in mind key life goals. 

One of the recommended core-satellite mixes is 80:20, whereby 80% of the portfolio comprises the core portfolio while the rest is that of the satellite. 

This strategy works within the overall framework of your intended asset allocation. For instance, equity investments in core and satellite portfolio should add up to intended equity exposure in the overall portfolio and so on.

What a potential core and satellite portfolio might look like

Why construct a core-satellite portfolio?

This strategy allows you access to the best of both worlds without compromising on your goals. Core portfolio is seldom churned; while money can flow from satellite towards the core, it is never the other way around. It ensures your goals are secured at all costs even if some risky investments don’t perform as expected.

The higher growth from the satellite portfolio  in turn helps you reach your goal faster or enhance your lifestyle. A larger retirement kitty could mean leading a better retirement lifestyle or fulfilling aspirational goals.  

How does it work?

Originally, the concept of core-satellite construction was used to differentiate passive and active portfolios. Here, index funds formed the core with the advantages of low cost and fund manager risk, while the rest was invested in actively managed funds with the potential to achieve market outperformance. 

Any underperformance by the satellite portfolio wouldn’t impact the achievement of financial goals, since the major part of the portfolio is tied to the market/index returns.

However, many financial planners are also using the core-satellite portfolio framework beyond just active-passive investing and based on one’s goals, risk profiles, age, time horizon, disposable income amongst others. For the sake of simplicity, let’s look at the portfolio of three investors with different risk profiles.

For a Conservative investor

A conservative investor would typically invest her core in debt instruments – Employee Provident Fund, ultra short-term funds and bank deposits. A satellite portfolio, meanwhile, could comprise a mix of passively and actively managed large-cap equity funds.

Largecap companies are typically market leaders and are often best equipped to weather the ups and downs in an economy business.

Here, the basic aim is to protect capital and keep up with inflation. This is done by investing a small portion of the portfolio in inflating-beating assets (equity). 

For a Medium risk taker

If the financial situation allows one to invest more in risk assets – then the proportion of equity needs to be increased further. 

One of the ways is to have large-cap equity funds (20%), midcap equity funds (20%), ultra-short-term funds (20%), EPF (20%) as part of the core, while the satellite portfolio (20%) could be any of the rest – REITs, gold,  international equity funds, commodity funds, sector funds, dynamic bond funds, and so on. 

For a High-risk taker

Young and financially affluent investors can typically take on more risk than others. So, they can contemplate 80% actively managed funds as core portfolio, while investing the rest in stocks, international equities, sector funds and so on.  

Takeaway

A Core-satellite portfolio strategy is a possible way to enhance portfolio returns without jeopardizing your goals. If you are wondering where to start with a potential portfolio strategy for your wealth, then you can check out Scripbox Core Mututal Fund Portfolio which offers the right solution for long term wealth creation.

You may also check out the Mutual Fund investment strategy