Every asset class has its own attributes and performs differently under different circumstances. By allocating your assets, you have the advantage of one asset making up for the poor show that another one puts up.
There are several asset allocation thumb rules and expert suggestions. The famous thumb rule is to subtract your age from 100 and allocate that towards equity. However, thumb rules are just that, and it is important to base your asset allocation on your risk profile, goals and age. An investor’s capacity to take risks comes down with age, even though the willingness may be there. A lot depends on the individual investor’s circumstance and their risk tolerance.
The gist of asset allocation, though, remains diversification of assets. Having said that, should portfolio allocations change with time or should one’s asset allocation be done once and forgotten? Asset allocation needs constant monitoring and tracking and change with time and changed circumstances.
Markets see a lot of volatility and there could be political or financial developments which may affect your investments. Therefore, the asset allocation you have made some time back may no longer be relevant to changed circumstances. Read on to see why and under what circumstances your portfolio allocations may change with time:
There is a difference between the portfolio of someone who is approaching retirement and someone who is on a growth curve in their career.
The equity allocation could be higher (going up to 70 per cent) for someone in their early or mid-thirties and a high tolerance level for risk. On the other hand, as the person gets close to their retirement age, he or she would have a lower equity investment, typically. As an investor, you can’t allocate assets once in your 30s and then forget all about them. Your asset allocation strategy should change as you approach different life stages. Your goals when you approach retirement could be different from your goals in your 30s or 40s.
Often, your tolerance for risk changes. Circumstances change; you may experience a job loss or a pay cut or you may get a raise and promotion. Based on whether the change is positive or negative, your risk profile changes. You may have a greater capacity for risk because of an improvement in your financial situation or you may have a lower tolerance because of a pay cut.
Sometimes, you could get a windfall by way of an inheritance and your wealth could grow overnight. In such a scenario, you would need to make a change in asset allocation. You could allocate a bigger portion of your investments more aggressively. The investment time horizon could also be much longer for that surplus portion of investment.
Continued non performance
Just because an asset doesn’t perform well over the short-term doesn’t necessarily mean you should change your portfolio allocation. However, if you have persisted for a long time and the returns are still not substantial in spite of prolonged exposure, you could rethink your asset allocation strategy.
Change in nature of fund or investment
Sometimes, you may not have altered your goals or time horizons but your fund itself may have changed. This is true if you have invested in a mutual fund and there are changes in the composition, size or investment principle that may not align with your goals when you first invested in them. In such a scenario, you may want to assess if the fund continues its asset allocation in line with yours.
Financial goal completion
Your investment strategy should be goal-based. No two individuals may have the same goals. You may have invested in a certain asset class for quick returns to buy a car in the next couple of years. Someone may have invested in an asset class for stability or for their child’s wedding in the next decade. Allocation of assets depends on goals and time horizon. So, if you are nearing your goals and have invested in equity, you may want to consider shifting to debt to lower risks and protect your gains made so far. This is particularly true in the case of an investor approaching retirement, for example, and goals are nearing completion.
If the investments you have made are not yielding results you had wished for, it is easy to fall into the temptation of selling them and reinvesting in other assets. Also, if your investments are doing well, you may feel like cashing them out and making another investment. However, change in portfolio allocations should be taken up in the framework of your long-term goals and investment plans rather than on a short-term basis.
Before making any change, as yourself if your goals have changed or your circumstances have altered either for the better or worse. You may have gotten married, had a child or divorced and it is at these life stages that you would need to evaluate your portfolio allocations and see if a change needs to be made.
Don’t base your investment decisions on impulse; rather each time you want to change your portfolio, pause and think about your current risk profile and your goals. This will help you make a change only if you need to.