Relevance of Asset Allocation Funds

Utilize asset allocation funds to wade through turbulent events opines Koushik Ketharam, Director, Intelli360 Asset Pvt Ltd. 

The spread of Covid-19 in early 2020 led to a sharp correction and then a rapid rise in the equity markets globally. However, every time there is a new variant of the virus, the jitters are felt in the equity market. For instance, the news of the spread of the Omicron variant of Covid-19 fuelled an almost 1000 point correction in the Nifty-50 index towards the end of November 2021.

This volatility can be scary for investors who joined the investments space in the last couple of years. While the equity market has witnessed a dream-run over the past 18 months, it is crucial for all investors, especially newer ones, to learn the importance of asset allocation right up-front.

Asset Allocation – The Basics
As the name suggests, asset allocation is nothing but defining and breaking down the investments into smaller buckets across different asset categories. Asset categories here refer to equity, debt, gold, or real estate.

The idea is to not invest all of your money in a single asset class. For instance, when the equity market is going strong, the natural urge to invest all or a large chunk of money in equity can be overpowering. On the other hand, in the case of a bear market, you might contemplate selling everything you hold in equities out of fear.

However, in the case of a portfolio that follows well-defined asset allocation, there will just be timely rebalancing in any of the situations. In the first one, the rebalancing would mean shifting some of the assets out of equity and in the second case, it would call for investing or moving some funds to equity.

How to decide your Asset Allocation?

Asset allocation is a function of the risk appetite and financial goals that an individual has. A youngster early in her career could have a reasonably higher risk appetite and is likely to have long-term financial goals. Accordingly, her allocation to equity, which is considered fairly risky and volatile, will be high. On the other hand, an individual approaching retirement might not be in a position to take a lot of risks. Hence, she should be allocating only a small portion to equity investments and the rest would be invested in relatively low-risk assets like fixed income instruments such as debt mutual funds.

Let a fund manager do the balancing for you
While one part of the asset allocation equation is risk appetite and financial goals, rebalancing the portfolio from time to time is another major aspect that can prevent your portfolio from witnessing major losses. Timely rebalancing can also mean optimising returns over the medium to long term. Hence, investing in a mutual fund scheme that follows dynamic allocation can be useful for investors who may find the rebalancing difficult or even confusing.

This rebalancing is done on a dynamic basis by fund managers in categories like dynamic asset allocation funds, which are a type of hybrid funds having investment in both equity as well as debt instruments. While a regular equity mutual fund has the mandate to invest at least 65 per cent of its corpus in equities, there is no such compulsion for an asset allocation fund.

Here, if the fund manager is of the view that equity investments are going in the overpriced territory, they book profits or earmark newer flows to other asset classes. On the other hand, when equity is available at a discount like it was immediately after the March 2020 market crash, the fund managers buy more equity thereby getting good businesses at an attractive price.

It is also important to note that all is not left to the discretion of a fund manager. Some leading fund houses employ model-based strategies to ensure that the decision-making is scientific and free from human bias.

Another option an investor can consider is from the fund of fund category wherein the portfolio has the flexibility to take exposure to equity, debt and gold asset classes. 

Asset Allocation funds relevant than ever before
With millions of new investors joining the financial savings and investments space, which in itself is a positive development, the risk from greed and fear can dent the returns that can be earned in the market. Hence, it is of utmost importance to employ asset allocation. If unsure, utilise asset allocation funds to wade through turbulent events and emerge on the other side with handsome gains over the medium to long term. 

The writer is Director, Intelli360 Asset Pvt Ltd.
 Email: koushik@intelli360.in
 Website: www.koushikketharam.com