By THOMAS KAEGI

THE global investment climate has improved since the collapse of the credit markets in 2008 with the evident green shoots of recovery pushing global asset markets higher. However, risk aversion amongst the investor community remains and capital preservation is still paramount. The severity of the financial crisis has challenged long-held investment principles such as the relationship between risk and return and the value of portfolio diversification.

Higher-risk assets that were intended to compensate investors adequately over longer periods of time saw any outperformance that they had accrued over the preceding decade wiped out. Diversification across different asset classes, countries, sectors and currencies was supposed to offer protection against adverse market moves but instead, every asset class, except cash and government bonds, slumped during the crisis.

But this once-in-a-lifetime shock does not invalidate the universal ideas that have guided the investment world since the Modern Portfolio Theory was developed nearly 60 years ago. What the crisis has revealed is some investors lost sight of their leverage levels and shifted a significant amount of their risk exposure to assets that did not match their financial goals. As such, instead of discarding these core investment principles, investors should take a fresh look at their risk attitudes and profiles, and adopt an investment approach that is disciplined, consistent and well-suited to their personal circumstances.

There is, of course, no one-size-fits-all approach to investing. Ultimately, what makes an approach right or wrong is whether it is consistent with the behaviour and temperament of the investor. Warren Buffett and George Soros have completely different investment styles, yet both renowned investors have been enormously successful. While the former adheres to a strict value-driven 'buy and hold' strategy, the latter takes large speculative positions and tries to benefit from short-term trading.

What both have in common is an acute awareness of their strengths and weaknesses. Mr Buffet opted not to invest in technology stocks during the tech bubble of the late-1990s, adhering to his principle of buying only what he understands. Mr Soros exhibits similar tendencies by actively limiting his investment universe. 'I don't discuss Russia, because I don't want to invest there,' he writes in his latest book. The lesson for investors is that chasing every investment opportunity is not a hallmark of successful performance.

The current market opportunities may encourage investors to engage in short-term trading in the hopes of quickly recovering some of the losses they may have suffered during the crisis. This is a dangerous emotional response. Investors should not lose track of their long-term financial goals because of short-term market fluctuations. A short-term focus can cost dearly in the long run.

Another important characteristic shared by Mr Buffet, Mr Soros and other successful investors is an ability to distance themselves from their emotions, an attribute lacking in many private investors. Emotional investing explains why many are reluctant to sell an asset even after its investment case has materially changed. As Mr Buffet famously said: 'A stock doesn't know you own it.' Investment discipline and having a clear set of rules are integral to successful investing. In stock orders, for example, predefined rules such as 'stop-loss' exist to help investors avoid biting off more than they can chew. Use them.

Maintaining a diversified portfolio and incorporating a comprehensive approach towards selecting the right asset mix remain powerful investment concepts. Now more than ever, private investors should work out a portfolio aimed at achieving lifetime financial goals while accommodating specific personal circumstances with shorter time horizons, such as providing capital to start a business, educating children at private universities, or purchasing a vacation home.

To best capture the emerging post-crisis opportunities, investors should design a strategic asset allocation that suits their risk profiles. A professional private banker can assist inexperienced investors in doing this. They can also help devise tactical asset allocation to exploit asset classes and markets that are expected to outperform the rest of the portfolio over a shorter period of time. UBS advises investors to buffer their portfolios by holding 5-10 per cent of their assets in readily accessible cash. Beyond cash, bonds and equities, investors today have options in alternative assets such as commodities, real estate, private equity and hedge funds.

Portfolio rebalancing

Most portfolios should be rebalanced on a regular basis, but not in a clockwork manner. As a rule of thumb, less frequent rebalancing tends to work better during upward-trending markets, while more frequent rebalancing may work better in periods of frequent reversals.

One of the most important lessons of the crisis is to always take uncertainty about the future seriously. To this end, we cannot overemphasise the importance of a disciplined and consistent investment approach, and one of the most effective ways of accomplishing this is to draw a personal Investment Policy Statement. An established practice among institutional investors, such a statement can also benefit private investors by formalising their investment process, thus helping them avoid emotion-driven decisions that can endanger their cherished goals.

The statement requires investors to first fully understand their financial situation. Then they can set their financial goals, return objectives and risk tolerance that best suit their personal circumstances. The statement can encompass the elements of a financial plan, clarify the investment universe and portfolio constraints, and outline what an investment manager is allowed and not allowed to do. Investors can seek help from specialists at private banks to formulate an Investment Policy Statement.

An Investment Policy Statement is not unlike Mr Buffett's annual letter to shareholders, which allows him to formally review his investment decisions, evaluate their success or failure, and restate his views on investing. Properly thought out, a written statement tracks investment thinking, keeps investors on course and protects them from investment trends that may be driven by emotions, not fundamentals.

No matter how the current investment climate may turn out in the long run, investors should not make the mistake of missing out on the opportunities which are now emerging. Another common pitfall that investors should be wary of is to lose sight of their financial goals. The investment approach that investors choose to reach their goals depends on many factors including their temperament and personal circumstances. While many roads lead to Rome, it is important for private investors to have their own personal roadmap that guides them how to get there - and stick with it.

The writer is head, Macroeconomic Research Asia Pacific, UBS Wealth Management

This article was first published in The Business Times.