Asset allocation variables should be assessed before investing

Asset allocation is like a rudder to balance one’s risk and investment portfolio return. An Investment Adviser tries to understand the risk profile of an investor, his investment time horizon & investment objectives.  Through financial planning processes, an Investment Adviser understands client’s personal qualitative and quantitative factors.  He also considers macroeconomic factors along with it to develop strategies. Asset allocation is a larger contributor to a portfolio’s overall returns than even individual stock/bond selection.

Before an investor invests, he must understand investment risks involved, investment time horizon and objective of investment. There are generally three categories of investment vehicles, i.e. investments having high risk, investments having moderate risk & investments having low risk. Each vehicle has different risk and return scenarios. While an investor invests in high risk portfolio with an objective of  generating high returns, it means  he should be ready to carry risk or deviation as per market movements. Therefore, without having an understanding of  the possible outcomes a person is going to take undue risk. As Financial Consultant in Kolkata, we advocate the fact that investments are unlike gambling.

Asset Allocation Strategies are subjective. Your Financial Planner will analyse your personal aspects as well as macroeconomic factors.

Do not follow thumb rules during Asset Allocation

There are thumb rules regarding asset allocation. Our personal suggestion is not to follow these thumb rules because you have unique goals, investment time horizons are different, risk appetite and personal factors are different. Why are we stressing on your goals? There may be number of goals and respective investment time horizons like building child’s education corpus, funding own house & car purchases, vacation funds, retirement corpus, etc. So your asset allocation hinges on each of your goals.

You may or may not have to re balance your portfolio at predefined time intervals. Re-balancing is to get back to the original allocations when there is a significant deviation from the initial asset allocation. Again one more subtle input an Investment Adviser considers is that with time, risk profile of an investor changes.  So nothing is permanent & one has to follow the process.

There may be strategic asset allocation and/or tactical asset allocation.

Strategic asset allocation focuses on the needs of the investor and does not usually needs to track the market constantly. It targets the allocation of various assets and re-balances the portfolio, thereby maintains initial allocation.

Tactical asset allocation is an actively managed strategy where a Financial Adviser actively takes required steps in the market in case of opportunities.

An Investment Adviser always considers the following variables while drawing the product suitability matrix and asset allocation strategies for you:

• Expected Rate of Return,
• Expected Deviation,
• Several Ratios,
• Your Risk Profile,
• Your Personal Factors,
• Market Scenario,
• Investment Time Horizon,
• Investment Objective,
• Liquidity,
• Tax Treatment, etc.

Financial Advisor will develop asset allocation strategies for you to make your financial goals achievable

Practical Scenario

Mr. Aswin Singh (39) is a business man (name changed) hired us as his Certified Financial Planner in Kolkata. His immediate goal was his only child Rohan Singh’s (3) cost of school education. From 2017, Mr. Singh requires  Rs. 1, 50,000 p.a. and the projected education inflation is 10% p.a. He wants to keep aside the inflated schooling cost for each year. For next 14 years he needs Rs. 40.46 Lakhs approx.

While I prepared his investment strategies with suitable asset allocation depending on the factors as stated above,  we came to a conclusion that he needs to invest a lump sum Rs. 16.77 Lakhs today. So did we decide to invest lump sum in the suitable asset classes at once? Certainly not. But, without considering asset allocation, the lump sum investment amount was Rs. 27 Lakhs. The strategy is subjective and sometimes you may have to invest more or invest less due to subjective diversification.  Knowingly, you can take the steps. Mr. Aswin Singh is a moderately aggressive investor. But being Financial Advisor in Kolkata, we never followed the rule of thumb.

This is a process. So, reviewing it periodically is must. Macroeconomic & personal factors play an important role. Being his family SEBI Registered Investment Adviser in Kolkata, we made the strategy as per current situation and assumptions like inflation, rate of return, personal factors, etc which is subject to change. Proper asset allocation can arrest downside risk of the portfolio. This helps to restrict a greedy and return-hungry investor from making reckless investments. On the other hand, an investor who keeps money in Banks, Post offices, etc. without knowing too much about taxes & inflation, it erodes his money year after year. One has to understand both the risks & the rewards involved in any investment. Risk means the chance that an investment’s actual return will be different than expected return. No investment is risk free. Therefore, one has to understand his personal factors, macroeconomic factors, risk profile, objective & investment time horizon before investing.

Low risk investment vehicles are associated with low returns. High risks are associated with high returns. The risk & return trade-off means balance between minimizing risk & maximizing return. Hence, asset allocation helps to balance your portfolio. Determination of risk isn’t an easy question to answer. It’s the behavior of a person and it varies from person to person. Your asset allocation will depend on your goals, risk profile, income, age, investment time horizon, macroeconomic factors, etc.

Determining what risk level is most appropriate for you isn’t an easy question to answer

The basic methods for managing risk are to diversify & hedge. Asset allocation helps to manage risk. Diversification means “Don’t put all of your eggs in one basket.” Hedging is moving from a risky asset to a risk-less asset. As Fee Only Financial Planner in Kolkata, we believe that it depends on your comfort with different risk levels, your goals, and where you are in life.