Importance of Asset Allocation




Pawan Ghavri
Ms Invest & Prosper Financial Services, Noida


The investors are spoilt for choice between various investment opportunities in the financial markets, considering there are numerous financial products available across multiple asset classes like equity, debt, gold, real estate, etc. Your investment strategy decides what financial product occupies how much space in your portfolio. This is what is termed as asset allocation, which in simpler words, means the proportion of different asset classes in your portfolio. It is a systematic approach of maintaining the right asset mix, with due considerations of one’s risk bearing ability, financial goals and investment horizon.

The historical returns from different asset classes reflect that no single asset class has always been a winner and each of them passes through their respective economic cycles. Asset allocation seeks to ensure the right balance between risk minimization and return optimization over the long term from various asset classes.

The core benefits of asset allocation can be defined as below:

1. Diversification of the portfolio – It aims to invest the portfolio corpus in different asset classes, thereby lending automatic diversification to the portfolio.

2. Minimizing Investmentrisk by aligning with risk profile– Asset allocation strategy can be instrumental in aligning the portfolio with the risk-bearing capacity of the investor. This helps the investor to minimize the investment risk within the tolerance range. e.g., if an investor is not able to withstand high volatility in the portfolio, the asset allocation strategy must be suitably aligned with the risk profile with high debt allocation and low equity allocation.

3. Optimizing the returns by rebalancing the portfolios on a regular basis – Consistently following the determined asset allocation also helps in optimization of returns due to the rebalancing of the portfolio on a regular basis. This results in profit-booking at higher levels and higher exposure to asset class with relatively reasonable valuations.

Mutual funds offer various investment strategies which ensure regular balancing of risk and returns which will ultimately help in meeting the individual long-term goals.These tools or strategies are given below:

1) Capital Appreciation Strategy – Such an approachis very effective for conservative investors,who do not want to take a risk on their capital, but simultaneously want to improve their portfolio returns. It can be implemented by shifting the portfolio returns on the period basis from debt funds to equity funds so that the principal continues to stay invested in a low-risk portfolio, whereas the appreciation gets invested in investments with high return potential. Capital protection oriented funds typically work on such a strategy. This strategy can also be tax-efficient if an investor stays invested in the scheme for more than three years, wherein they get eligible to get the indexation benefit. Moreover, this strategy can also be used by all those conservative investors who seek regular income through the systematic withdrawal of capital appreciation.

2) Trigger Based Investing - This strategy automatically books profit on the set trigger return as and when the NAV of the desired scheme or fund meets the pre-specified criteria. While it is not considered prudent to time the markets, especially for the investors with long term view, setting trigger-based investment/redemption strategy can help the investors make the most of the market growth and corrections, respectively. Examples of such investment strategy can be setting a trigger of investing every time the market gives a correction of 1.5% or weekly returns of -5%. Similarly, triggers can also be set for redeeming the existing investments, as and when the fund returns cross the specified trigger of 20% returns.

The investors must also understand that while it is important to effectively invest as per the specified asset allocation mix, it is equally important to maintain such optimum asset allocation mix through the investment journey. Therefore, investors must undertake periodic portfolio rebalancing, especially when any asset class has given extraordinary returns over its historical average.This helps in booking profits from the investments at currently higher valuations and making investment allocations in the asset class with relatively inexpensive valuations.

As such, asset allocation certainly emerges as the primary way to get long term sustainable, risk-adjusted returns, which will ultimately help in meeting all our long-term financial goals through effective financial planning.

For more information on this subject, kindly contact : Pawan Ghavri (RIA) M/s Invest & Prosper Financial Services; Email : pghavri@gmail.com website: www.ipfs.co.in

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