Wealth creation is a long-term process. They say Investment is a marathon not a sprint. And rightly so, the longer you stay invested the lesser impact the short-term cuts/ correction has on your portfolio. While the power of compounding gets powerful when you invest for a longer period, however, events like market corrections and black swan events do put a dent on your corpus at least for a short term period.
Historic data indicates that, during the period of deep cuts, the portfolio value may go down to as low as 60-70% (Source: NSE) from its immediately preceding peak value. Thus, there is a need for a strategy which can help investors navigate through the cuts and market crash without significant impact on their corpus.
Asset allocation is one such strategy that has stood the test of its time in safeguarding investor corpus and has led to long-term wealth creation. Asset allocation is an investment style where Investors diversify by investing in different uncorrelated asset classes, such that any sharp correction in one asset class does not have any cascading impact on other. In this style of Investing, the investor aims to be opportunistic and switches from one asset to another based on his outlook on the different asset classes.
There are many forms of Asset allocation combinations currently available with asset class based on the risk appetite of investors such as Equity, debt, gold, commodity, currency, real estate, Real Estate Investment Trusts (REITs), Infrastructure investment trusts (InvITs) etc. A prominent one is investing in Equity, debt and gold where investment in equity is aimed for capital appreciation, investment in debt for principal protection and gold as a safe heaven. Another combination is Equity, Debt and Arbitrage fund. Today Mutual funds offer various asset allocation schemes across a different combination of asset classes. Multi-asset allocation fund has proven to be beneficial over a longer period.
Adopting asset allocation is easier said than done. It involves having an unparallel knowledge and understanding of various asset classes. What asset class to choose, how much should be the asset allocation, when to enter which asset class and when to exit from which asset class. Investor with limited knowledge trying to adopt asset allocation strategy by themselves may run risk of incurring loss if they are unable to gauge the changing dynamics of asset class. It is therefore advised to take guidance of the financial adviser or invest in Multi asset allocation/ Dynamic Asset Allocation funds offered by various mutual funds.
The dynamic asset allocation fund by mutual fund could be a good option especially at a time when valuations are pricey. Some of the funds run on a quant model for arriving at an optimum asset allocation level. The model analyses changing trends in the variables and calculates the optimum asset allocation level. The prime objective of such funds is to reduce the volatility of the fund through optimum asset allocation. For example, when markets are at expensive valuations, the model may suggest reducing exposure in equities and allocating a higher proportion to debt. That way safeguarding the investment from any potential market corrections. In the event of cheaper valuation or market correction, the model may suggest increasing higher allocation back to equities.
Asset allocation as a strategy has its advantage however it involves complex models and having a superior understanding of various asset classes. Investors may consider investing in Dynamic asset allocation fund/ Multi-Asset Allocation Fund offered by mutual funds which are professionally managed by trained fund managers.
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Diversification is key and should be followed for stable and steady returns in the long run.