Let’s first address the first question: why the sudden interest in asset allocation? According to mutual fund advisors, many new investors who have started investing in mutual funds have primarily invested in stock mutual funds. As everything was going well, investors were eager to invest more and take a lot of risk thinking they could make a quick buck. However, as the market turned volatile and investors eyed short-term losses, the mood changed. These investors wondered what they could do to protect their wealth. This is when investment experts start talking about asset allocation strategy.
So what is asset allocation? As you might have already guessed, this simply means investing in different asset classes depending on your risk, goals and investment horizon. The basic idea is to balance risk and return and ensure optimal returns. Many investors invest in stock mutual funds to look after their long-term goals. They also invest in mutual funds, bonds, bank deposits, etc., to take care of their short-term goals. Some investors may also invest in gold. However, as said before, a new investor will not have such a diversified portfolio.
So how does this so-called asset allocation help you? First, it provides stability to your portfolio. Countless studies have shown that different assets behave differently under different economic conditions. For example, when stocks are doing well, debt may not offer good returns. The opposite scenario may occur in the future. While equity can help you build wealth, debt investments would provide stability to your portfolio.
Is it so simple? Well, you also need to be careful with your asset allocation. Most investors review their allocation at least once or twice a year. This will result in regular profit taking and reallocation of money according to the allocation plan. For example, suppose your asset allocation plan calls for 70% equity investments and 30% debt. Thus, your equity allocation may be more in a bull market. This means that you will need to sell some of your equity investments and invest the profits in debt to return to your original allocation of 70% equity and 30% debt.