Portfolio construction

What is portfolio construction? 


Portfolio construction is the process of putting your long-term investment plan or “strategic asset allocation” (SAA) into action.

It involves identifying specific investments to make up the asset class allocations set out in your plan.

This requires detailed analysis of the different assets you can hold in your portfolio. 

You can take a passive or active approach to constructing your portfolio. 


Passive investing 


A passive approach involves buying investments such as index funds or exchange-traded funds (ETFs) that aim to track the performance of, say, a stock market index. 

You could consider implementing a passive portfolio for example, by simply investing in two passive funds: one tracking a broad global equity index and another tracking a global fixed income index.  

Such a passive approach can be cost effective. Tracking indices via exchange traded products may incur low fees, seeking access to a broad range of investments with a single purchase. 

While passive investments are known for mirroring broad benchmarks like stock market indices, they also can replicate the performance of more specific market sectors.


Active investing 


The other approach to constructing your portfolio is called active investing, where you invest seeking to perform better than the market rather than simply track a benchmark.  

You can do this by picking your own securities or investing in a strategy run by an experienced manager. 

If you go it alone, you will have to dedicate a great deal of time to analysing potential investments across many asset classes because the options are vast.  

As well as time, you will need a lot of specialist information and tools. 

For actively managed strategies, the fees are typically higher than for a passive strategy.    

The main risk associated with active investing is failing to outperform a relevant benchmark.   

Of course, you can combine an active and passive approach to construct your portfolio. 


Monitoring your portfolio 


Once you have constructed your portfolio, you need to monitor its performance. 

When one asset class or investment performs well or badly, it may represent significantly more or less than the weighting suggested in your long-term plan and objectives. Your portfolio then becomes riskier and its performance is skewed.

If this happens, reallocation of your portfolio is an option you may want to consider.  

For example, to maintain diversification some assets may be sold to reinvest in others. 

However, there are several ways to maintain portfolio allocations in line with your investment objectives including but not limited to, reinvestment and adding capital.

Bear in mind, rebalancing can incur trading costs, and you may have to pay capital gains tax on selling profitable positions. 




Portfolio construction is the process of putting your SAA into action.

You can take a passive or active approach to constructing your portfolio or a mix of both.

A passive approach involves buying investments that aim to mirror the performance of a benchmark.

Active investing involves investing in assets that seek to beat their benchmark.

Active investing is typically more expensive than passive investing because it incurs trading costs.

Rebalancing is the process of keeping your portfolio aligned to the long-term plan.