In this study we start with a classic asset allocation example of a growth portfolio implemented through a suite of ETFs. Rather than using any specific model to select the various asset classes, and the weights for them, we have chosen to use a fixed but unequal set of weights for a combination of an 80% equity and a 20% fixed income exposure, with the proviso that at the beginning of each month each chosen asset class is re-balanced back to its original weight.

By studying the output from this construction over a 15-year period which pre-dates the global financial crisis of 2008, one can readily see the power of a well-diversified ETF portfolio. Looking at the backtesting results one can see periods of negative returns when market volatility is at its highest, but over time the portfolio does recover and the cumulative performance looks very satisfactory.

With an average annual return of 8.5% over the 15-year period and an annualised volatility of 15%, this construction does very much show the characteristics of what one would expect from a Growth portfolio.

At this stage of our study, we have made no attempt to incorporate any of the ideas normally associated with Factor Investing, and in the following weeks we will start from this ‘Reference Growth Portfolio’ and look at alternative ways from which to implement a re-balancing framework, using this challenge as an opportunity to better understand different aspects of factor investing. This starting point, which uses the simplest of rules for re-balancing, shows the power of passive investing and why as a discipline it continues to challenge the authority of a more sophisticated approach using active funds as building blocks. Twenty20 Fixed Weight Reference Growth iBasket