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Morgan Stanley’s model portfolio outperforms benchmark over a decade

In the world of investing, there’s a notable distinction between theoretical exercises and real-world financial stakes. It’s the difference between playing a video game like Mario Kart and driving a race car, or simulating indoor skydiving and taking the plunge from an actual plane. This analogy holds true for the realm of investment as well, where the introduction of real money brings forth the adrenaline-pumping risks and rewards that can keep investors awake at night. The sentiments are no different for seasoned fund managers who grapple with these fluctuations on a daily basis.

Morgan Stanley, a prominent player in Australia’s financial landscape, has been operating a model portfolio for the past decade under the stewardship of Chris Nicol. The portfolio has been a remarkable success story, consistently outperforming the benchmark S&P/ASX 200 index by an impressive 28.4 percent over the ten-year period, equivalent to an annualised return of 1.5 percent.

Currently, the model portfolio is strategically concentrated and cautious, favouring sectors such as energy, healthcare, and insurance. It holds positions in companies like CSL (ASX:CSL), Woodside (ASX:WDS), ResMed (ASX:RMD), Santos (ASX:STO), and QBE (ASX:QBE), while maintaining an underweight stance on the big four banks. Interestingly, it is heavily skewed toward large-cap stocks, a departure from Nicol’s initial focus on small-cap investments.

Reflecting on his tenure as the head of Morgan Stanley’s “Macro+” strategy team and the model portfolio, Nicol has expressed his intention to shift the portfolio’s focus back to smaller stocks in the upcoming year, aiming to embrace growth and mid-cap opportunities.

While the model portfolio has delivered impressive, annualised returns of 9 percent over a decade, it’s crucial to acknowledge that these figures do not account for factors such as fees, brokerage costs, and taxes, which significantly affect real-world returns. Despite these limitations, Nicol underscores the model portfolio’s importance as an engagement tool. He and his team meet with portfolio manager clients to discuss sector allocation, stock selections, and overall portfolio positioning, facilitating a valuable dialogue that can influence investment decisions.

Morgan Stanley’s research team, comprising 32 analysts covering Australian stocks and a robust global macro franchise, plays a pivotal role in shaping the model portfolio’s recommendations. Nicol emphasises that when changes are made at the stock or sector level in the model portfolio, they are backed by strong conviction and thorough research.

Nicol’s journey into the world of model portfolios began when Gerard Minack, Morgan Stanley’s former head of strategy, approached him with the opportunity to bring a fresh perspective to the role. Nicol teamed up with economist Daniel Blake to merge bottom-up and top-down perspectives, with the goal of creating something unique in the market.

Looking ahead, Nicol and his team foresee a somewhat sluggish year for the S&P/ASX 200, with an anticipated climb to 7,350 points by December next year, compared to its current level of 7,240 points. They acknowledge potential earnings risks in the domestic market, particularly in the lead-up to February’s financial results, where factors such as interest rates and energy costs will play a pivotal role.

The macroeconomic landscape, both in Australia and globally, has been a driving force in market dynamics since the onset of the COVID-19 pandemic. Morgan Stanley’s team anticipates another interest rate increase by the Reserve Bank of Australia in February, taking the cash rate to 4.6 percent, contingent on data confirmation from inflation reports and retail sales data.

Chris Nicol’s tenure at the helm of Morgan Stanley’s model portfolio has demonstrated the value of this engagement tool in influencing investment decisions and showcasing the firm’s research capabilities. As the financial landscape continues to evolve, Nicol’s insights and the success of the model portfolio serve as a testament to the importance of well-informed investment strategies in navigating the complexities of the market.