Windhaven’s Zhang: 3 Risk Mgmt Principles

February 14, 2014

Firm’s head of research and portfolio management preaches the three D’s.

Investors face many challenges today, perhaps none more paramount than determining how to allocate to fixed income and emerging markets. But it’s in diversification, asset allocation and risk management that investors might find their biggest ally when it comes to navigating a changing economic environment, Windhaven’s head of research and senior portfolio manager Linda Zhang says.

In a recent interview with, Zhang discussed not only whether a 60/40 portfolio construction still makes sense, but pointed out the opportunity sets outside of U.S. equities. What do you think are the biggest challenges investors face today when it comes to making portfolio decisions?

Linda Zhang: Rising interest rates is perhaps one of the key changes in the macro environment investors are faced with now, compared to the last 30 years when investors rarely lost money in bonds, and last year is when they finally woke up and realized just how much money they lost in bonds for the first time in recent years.

Going into 2014, and for the next five, 10 and 30 years, where rates are going will be important, and the consensus is that rates will probably be on the rise, rather than the other way around. That presents a challenge to fixed income. It’s not going to be a straight line, and there will probably be a lot of volatility, so how you find the next safe haven, if you will, is one of the challenges.

But let me add that even though fixed income could be challenging, we wouldn't advise people to just pull money out of fixed income and go into equity or other risk assets, because then you expose yourself to other type of risks. Do you think the traditional 60/40 portfolio people have relied on for so long now doesn’t fit in this new fixed-income reality?

Zhang: We’re not that pessimistic. We should continue to believe in this philosophy that staying truly diversified is more important than ever. There will always be an asset class that’s facing more challenges in one year or another, but it may come back and cushion you and even appreciate in the following years.

We’re big advocates of staying truly diversified all the time. Even though, for example, in 2013, staying diversified when the S&P 500 trumped nearly everything else was kind of painful. But it’s hard to imagine that 2013 will repeat exactly the same way year after year.

The best way to deal with managing investment risk is to follow the three principles that guide us on how we manage money, how we conduct portfolio constructions and how we do research. These are what we call the three D's: true diversification; dynamic asset allocation; and downside risk management.

For diversification, you really need to go beyond owning some stock funds, and also go into commodities, currencies and real estate. We watch more than 40 global asset classes, which include U.S., developed and emerging markets in the form of equity, fixed income, currencies, real estate and commodities.



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