This article was first published in iNM, Volume 5, August 2013, pg. 6; Co-author: Saumya Rastogi, NMIMS
We all have different roles and responsibilities, depending upon the stage of life we are at. Due to this, the requirements of one individual differs from that of the other. A bachelor’s needs and responsibilities would be very different from that of a person with a family. Thus the assets in which a bachelor should invest his funds should be very different from the assets in which a person with family invests. Investing funds in different assets according to the needs and risk taking abilities of individuals, in appropriate proportions, and managing this concoction over time, is known as Asset Allocation.Different assets in which investors invest their money include bonds, stocks, shares, bank deposits, mutual funds, real estate, gold etc. A good asset allocation is one in which the wealth of an individual is properly distributed across different financial instruments in a way that helps the individual achieve his objectives. In the event of negative performance by one of the assets, others cover up for the loss. Asset allocation diversifies the risk in an organized and planned manner.
Assets are selected based on the goals of the individual. The goals could be short term or long term, lump sum requirement of money or equal amounts spread over many year. The time available to achieve the financial goals is also important in determining the asset class mix. And of course the risk appetite and ability.The risk appetite of investors are grouped under three categories; aggressive, moderate and conservative. Aggressive investors look for investing in asset classes which are very risky, like equities, hedge funds and certain commodities. Conservative investors prefer to stick to asset classes like debt mutual funds, fixed deposits, small saving schemes, public provident fund etc. which have very low or no risk attached to them. People with moderate risk appetites like to take measured risks. Mutual Funds may be a suitable asset class for them.
Risk taking abilities differ from risk appetites and is not generally understood by investors. A person may have the appetite to take very high risk but may not have the ability to do so. For example, a person may be a risk lover, but may have many mouths to feed and less money to spare. Hence his ability to take risk is very low, which must be accounted for when allocating assets.It is commonly seen that investors make investments without analyzing their needs and requirements and end up with wrong choices. They either follow the trends in the market, or suggestions given by friends and family or simply imitate someone else. Young investors mostly buy assets on equated monthly installments and equate it to forced saving. They do not realize that buying assets which depreciate is not saving or investing. Retired investors prefer to invest money in mostly safe and riskless assets.
According to Hemant Rustagi, CEO, Wiseinvest, a wealth management firm, the mistake committed by investors is that they identify the instruments even before they decide on asset allocation. Investors do not choose instruments as per their needs but according to their awareness or suggestions which are given to them. This leads to misallocation of assets as the objective of asset allocation is not considered. Thus, the most important thing to begin with is to understand the requirement and the objective of asset allocation for an individual.Over the years it has been seen that Indians prefer to invest in Fixed Deposits and Gold irrespective of their investment objectives. The investment in risky assets like shares and mutual funds are less than three-four percent of household savings. Even a necessary asset class like Insurance receives less allocation than fixed deposits.
On the other hand, investment in gold is highly preferred by individuals in India. This is because Indians have sentiments attached to gold, it is liquid and it is considered to be a hedge again inflation. The ever increasing demand for gold is another reason for minimal interest in other asset classes.It is time to start investing for achieving specific financial goals. Be it education, marriage or a house. Plan, allocate, manage, be disciplined and achieve.