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There’s a saying which sums up how one should think about asset allocation, (Don’t put all your eggs in one basket.) The logic is simple: If you drop the basket, you stand a risk of losing all your eggs. The same principle is very important when it comes to investments in general. It also applies to investing in the US. Very simply, it means dividing your investments across various assets such as stocks, bonds, and other assets. In this blog we tell you five things you need to know about asset allocation strategies.
1. There are two types of asset allocation strategies
The two types of asset allocation strategies are strategic asset allocation and tactical asset allocation. In strategic asset allocation, an investor sets an asset allocation and balances it on a periodic basis. In the case of tactical asset allocation, the investor shifts the assets held in different asset classes due to market trends or economic conditions. Strategic asset allocation works for beginner investors and investors who are risk-averse. It also works well for investors who want to invest for the long term and do not want to time the market. Tactical asset allocation, on the other hand, requires a fair bit of expertise.
2. An asset allocation usually takes your age and goals into consideration
- When you have time on your side, you can ride over market fluctuations. As such, you may have a considerable portion of your portfolio in equities. However, if you need the money you have invested soon, market volatility may affect your investments and cause stress. In principle, as you grow older, you might prefer to move your investments from equity to debt.
By that same logic, your asset allocation will depend on how far away you are from your goals. If your goal is more than 10 years away, a major portion of your investments may be in equities, However, when the goal is only a few years away, you may shift it to debt.
3. Your risk appetite plays a part in deciding your asset allocation
Age isn’t the only factor – your asset allocation is also decided by your risk appetite. You could be a retired person, but if your risk appetite permits, you may want to invest a portion of your assets in stocks. On the other hand, if you are risk-averse and cannot stomach market fluctuations, even at a younger age, you may want to invest a higher portion of your assets in fixed income instruments.
4. Even within an asset, it is important to diversify your holdings
Even if you are following a strategic asset allocation strategy, your portfolio would require rebalancing at regular intervals. Let’s say a person’s desired asset allocation is 70% in stocks and 30% bonds. If the markets have been performing well for a period of time, the stock weighting of the portfolio may have increased to 80%. In such a situation, the investor may sell off some equity holdings to bring back the portfolio to the desired asset allocation level, if they prefer to stick with their original asset allocation target (read more to learn about the essentials of a well-balanced portfolio).
It is important to remember that investing requires a fair bit of discipline. A proper asset allocation strategy is likely to help you meet your investment goals.
5. Asset allocation strategies require periodic rebalancing
Even if you are following a strategic asset allocation strategy, your portfolio would require rebalancing at regular intervals. Let’s say a person’s desired asset allocation is 70% in stocks and 30% bonds. If the markets have been performing well for a period of time, the stock weighting of the portfolio may have increased to 80%. In such a situation, the investor may sell off some equity holdings to bring back the portfolio to the desired asset allocation level, if they prefer to stick with their original asset allocation target.
It is important to remember that investing requires a fair bit of discipline. A proper asset allocation strategy is likely to help you meet your investment goals.
