It may not be wrong to say that an investor’s asset allocation is as important as their diet. Although we all understand the importance of a balanced diet, we rarely follow it. “Building health” often takes a back seat amidst the daily hustle and bustle of life. We often forget that time is limited, whether to build good health or wealth. Therefore, it is essential to use this time to its best potential.
In today’s unstable environment, any “financial expert” claiming to predict the direction of financial markets is trying to make a guess. Therefore, for an investor’s personal interest, it is advisable to avoid trying to time the markets while predicting the magnitude of one’s decline/gain. One way to weather the turbulence of the macro environment is to hedge, using the right asset allocation strategy.
Deciphering asset allocation
Asset allocation refers to the allocation of money to multiple asset classes like stocks, debt, real estate, cryptos, gold, cash, currencies, etc. The need for asset allocation cannot be stressed enough in today’s environment, when the only constant is change . All macro-environmental factors affect each asset class differently and to varying degrees. For example: a recessionary environment accompanied by higher interest rates is likely to drive up the prices of India’s favorite yellow metal, gold. Similarly, a rise in crude oil prices can significantly reduce corporate profits and therefore lower stock prices.
Since external influences are difficult to predict, investing all money in one asset class, whether in stocks, cash or bonds, can make a portfolio vulnerable to fluctuations in value or become a reason for miss growth opportunities. Therefore, it is best to avoid keeping all the eggs in one basket. Strategic diversification of investments helps offset the effects of various market fluctuations, while providing the opportunity to gain when certain asset classes perform better than others or weaken less than others.
Quite rightly, the performance of an investor’s portfolio largely depends on asset allocation. Just as we say “you need to be in the right place at the right time”, so do investments where an investor needs to be in the “right asset at the right time”. Diversified investments can be made within the same asset class or between different asset classes. For example, within a single asset class (equities), investment choice may come from a range of stocks in sectors such as automotive, IT services, oil and gas, etc
Undoubtedly, diversification is time-consuming and complex for a layman. Therefore, investing in multi-asset funds offers investors the benefit of a professionally managed fund with the expertise of a fund manager. These multi-asset funds invest in a combination of government and corporate bonds, foreign and domestic equities, gold ETFs, commodity futures, and more. portfolio diversification to investors.
Remember to rebalance your portfolio
Once a portfolio has been constructed using the right asset allocation strategy, it is equally important to rebalance it over a regular period of time. This is crucial because a certain asset class may have outperformed the other asset class in the past, but may not continue the same trend in the future due to various systematic factors such as new regulatory policies, natural calamities, war, etc. Rebalancing is also important when an investor ages over time and their ability to take risk diminishes. For example, a 30-year-old investor may have greater exposure to a riskier asset class like cryptocurrencies compared to a 55-year-old investor who is approaching retirement and prefers to protect their corpus.
All asset classes experience periods of underperformance, which is difficult to predict with precision. To overcome this, a diversified portfolio not only within the same asset but across assets, called asset allocation, benefits investors by creating a higher corpus over a long period of time.
Disclaimer: CNBCTV18.com advises readers to check with certified experts before investing.