Continuing our journey from where we last left in the Stack “Personal Finance is Personal”…today let’s talk about another important concept in personal finance viz. Asset Allocation.
ASSET ALLOCATION is the process of dividing your investment portfolio among different asset classes to achieve your financial goals and risk tolerance.
Our financial goals and risk tolerances are unique. Hence, asset allocation decisions require a great deal of personalization.
Asset allocation is intended to help you make better decisions not about a single investment but about the compounded growth of an investment portfolio throughout your lifetime.
So what drives your Asset Allocation - the answer is you. There are two broad goals in the asset allocation plan:
(1) Increase the long-term CAGR of our investments
(2) Have enough liquidity in the near term
Offense wins games, but defense wins championships.
Effective portfolio construction is not about picking the best stock or asset. It’s about picking the best combination of assets.
Make thoughtful decisions
What matters is the path that the investments take in your lifetime. If your peak earning years or retirement happen at an 'unlucky' time then it's of little consolation that you fared better than average. What matters is maximizing the chance that / do good enough, not in the context of someone else but in the context of your own goals.
Have Clarity
Prabhakar Kudvu sir author of the stack "Marketsense" and Nitin sir author of the stack "The Pivot" touched upon the topic of having clarity. Although they were mostly talking in terms of trading, that provoked a thought we should have clarity in terms of asset allocation decisions.
By having clarity, I don't intend to say that we should be rigid. Planning for the long term will require course correction which can be triggered by various internal and external factors. Our circumstances might change, and so do the external factors.
As long as we have a framework and clarity around that, in the context of asset allocation I think we are through
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In terms of asset allocation context the relevant questions can be:
(1) What are the goals?
(2) How much volatility can one digest?
(3) How equipped you are to make asset allocation decisions. Should you do it yourself or leave the task to a professional?
(4) Starting point. Goals in order of priority as well in terms of timelines - near-term goals (could be major purchases, vacations), mid-term goals (children's higher education), long-term goals (retirement, philanthropy, etc.)
Have meaningful well-thought-out weights to different asset classes. Don't be in the field of active investing if you don't enjoy the process.
Beta generated from Asset Allocation = Alpha in Portfolio returns over the long run.
Give a thought on Asset Allocation in your portfolio, this is what drives long-term returns.
We’ll deep-dive into this concept in the subsequent posts.
Finding resources on asset allocation in the Indian Context is very difficult. If you know a good book or resource in Indian Context…please let me know in the comments below or write to me.
International Resources on Asset Allocation
(1) Global Asset Allocation by Meb Faber
This book is mostly from the context of an investor in the developed world. The book talks about dividing the Stock/Bond portfolio further into Emerging Market Stocks and debt funds apart from being only in the developed world.
This book can be broken into three parts.
1. What’s the situation?
2. What do you do?
3. Why is doing it hard and how might we make it less hard?
Goes beyond the traditional 60/40 portfolios but still the alternatives mentioned are more geared towards the American context.
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Disclaimer: I am not SEBI registered. The information provided here is for educational purposes only. This is not a buy or sell advice. I will not be responsible for any of your profit/loss based on the above information. Consult your financial advisor before making any decisions.
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