The strategy That Gets The Work Done!

29.04.22 09:18 PM - By Nikhil Tandulwadikar

Asset Allocation

All asset classes inherit risk that may cause long-term harm to your financial health. Asset Allocation is the only strategy that can give your comfortable sleep at night knowing your portfolio is safe.

2 books that shape my understanding of asset allocation. Book number one 'All About Asset Allocation' (AAA) by Mr. Richard A Ferri (CFA) And the second is 'Value Investing and Behavioral Finance' by Late. Prarag Parikh (VIBF).

I dont want to have out a impression that I am a qualified investment advisor or do I completely understand these asset classes. I prefer to be called a a humble mutual funds distributor. generalist leaning daily and A lot of my writing are inspired by these two gentlemen's work and other knowledge gained over these years.

Let me tell you why asset allocation is important

1. It helps you avoid mistakes. Not many people understand the importance of avoiding mistakes. their are two school of thoughts that exist. First, know the right thing to do which require a lot of precise knowledge. Second, know what not to do, this approach is simpler and easier to learn. Asset Allocation is the result of the second approach.

2. Their are not shortcut. If making money was that easy we all would be rich by now.

3. Superior performance requires access to superior information and skills to use that information. Successful investing requires the design, implementation and maintenance of a long-term investment strategy that is based on your unique needs

4. The Unknown Future: No one knows how the markets are going to behave in the future. The best example was flash crash in 2020. And the subsequent recovery which happened during negative economic events.

Strategy that lowers the return volatility of the portfolio without lowering the simple average return will increase the compounding returns

5. Compounding requires less volatility.

	1 Year	2 Year	3 Year
Portfolio A	8.0%	12.0%	20.0%
Portfolio B	9.0%	-5.0%	-20.0%
Portfolio C	7.0%	17.0%	24.0%
Total	24.0%	24.0%	24.0%
CAGR	8.0%	7.6%	6.0%

In the above table we experiment with 3 Portfolios (A,B&C) with three years same total returns 24%. Yet the compounding returns are quiet different. Portfolio A has higher Compounding rate than both B & C the simplest answer is lower volatility.

6. Diversification. Asset Allocation leads to diversification based on your unique needs. That being said overdiversification increases cost and leads to more maintenance. Have a simple allocation allocation strategy is the key.

7. Comfortable Sleep at night. Knowing that you have a asset allocation plan in place leads to better investment experience.

8. Simple is Powerful. A simple asset allocation strategy tends to be more cost effective and easy to maintain. their is always a option to diversification in sub-asset classes (like equity large cap, small caps, international equity etc...) to maximise opportunity.

Asset Allocation performance from 2006 to 2021 link

Study Concluded that more than 90 percent of a portfolio's long-term variation in returns was explained by its asset allocation