Things to know about asset allocation

A successful, satisfied and happy investment journey starts with a good asset allocation. Every investor has a different risk profile, variety of commitments that are lined up to be fulfilled at different stages of life.

Understanding about various financial instruments by an investor plays a crucial role in decision making. Know your investment needs: Before committing your investments into one or more asset classes, get the basic needs assessed.

Once you have arrived at the needs, then segregate them into short-term and long-term goals. Analyse, evaluate and then choose the suitable asset class for every goal. Over exposure or any single asset class has its own disadvantages with factors ranging from performance, liquidity, capital appreciation, etc.

Importance of asset allocation: Investors variedly park bulk of their savings into fixed income assets, followed by gold and real estate. Penetration of equity investing is still at a nascent stage.

If we dig through the investor’s profile or the intention, most of them would be biased towards an asset class that is not matching with that of their risk profile. This is the first stage of the problem.

Imagine an investor, who is over invested into equities and unfortunately, an emergency expense came up within 2.5 years, which was unforeseen. He/she has to turn towards the equity investments, liquidate them to meet the crucial commitment.

Now, by that time, if the equity investments/the portfolio was performing well, it’s fortunate. Else, the investments will have to be forcefully sold at a loss. Another problem in such a situation is that, they may end up getting a lesser value than what is required for.

It is data supported fact that, historically, equities have the ability to deliver higher returns in the longer run, but for short-term, they are very risky and not recommended for.

On the other hand, if this investor had sufficient amount in fixed income, any short term needs, either pre-known or sudden, could be handled better. The equity investments could be kept intact for long-term, thereby, giving an opportunity for better capital appreciation.

Investing in a particular asset class, other than the traditional FDs, also depends on the investor’s understanding and awareness about such instruments. Here, it’s better to take the help of a competent financial advisors. They can help you in ascertaining your risk appetite and also guide your investments into different asset class, depending on your needs.

Rebalancing: Asset allocation is an on-going process throughout the investment journey. After a cycle in either equity markets or interest rates (debt), one must review and rebalance the portfolio and align it with the ideal asset allocation that was initially charted. Any deviation needs to be meticulously corrected and an expert’s help would come handy.

Given the positive outcome of GST implementation and the long-term benefits of demonetisation that our economy is poised to experience, equity markets are expected to do well in the long run. But that may happen with parallel volatility. Hence, it is advisable to take the equity exposure through the SIP route.

(The writer is Associate Director at Geojit BNP Paribas)

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