If you have an opportunity to make your own team in IPL, what will you do? Take all the best batsman or make a team of all types of bowlers or make a good mix of batman’s, bowlers and fielders. To win a match it is important to have good mix of
players with different skill sets. Similarly, in your portfolio you need all kind of asset classes, which will perform in different market conditions. A good team mix can be a mantra for winning a match and asset allocation can be a mantra
for a winning portfolio.
What is asset allocation?
Asset allocation is the mix of different asset classes e.g. equity, debt, gold etc. in an investment portfolio. The aim of asset allocation is to balance risk and returns in accordance with different financial goals and risk appetites. Unfortunately,
asset allocation is not given its due importance by many investors in India and we see investment portfolios heavily skewed towards particular asset classes without factoring in risk and return consideration.
Let us take an example to show market value (at the end of 2019) of Rs 1 lakh investment made in 1998 for different asset allocations with annual asset allocation rebalancing to the target asset mix. The maximum wealth creation has taken place
in 70% equity and 30% debt asset mix.
This analysis has several important lessons for investors:
- The asset mixes in the above analysis gave double digit returns over the 20 year period. This shows that you can beat inflation with asset allocation.
- While risk and return are related, you need not take excessive risk to get the best results in terms of wealth creation.
- With asset allocation it is possible to balance risk and return to get superior absolute returns.
- The most optimal asset mix has been around 70% (equity). Hence from a long term perspective investors can look at Aggressive Hybrid Funds as suitable
investment options.
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