When you look at returns of asset classes individually then each one of it is fascinating. Many investors get lured to such fascinating returns and start chasing that asset class. Just look at gold which delivered 25-30% returns from 2008-2011 and then fell to -14% in 2013 and carried further. In the same period, the Gold ETF corpus rose from 96 cr in 2007 to almost 7000 cr in 2015 showing that investors were chasing it heavily. But is chasing the returns right approach for your investments or this can lead you to missed opportunities in your portfolio.
The return is what many investors chase and so they end up investing in asset class based on what returns it has generated in last few years. But when you analyze these asset classes then you will find that the performance has actually varied a lot at different time periods. This variation is itself a proof that the volatility of any asset class can throw up opportunities or may not be in sync with other asset classes. For any investors to reap the benefit from any asset class, he needs to be invested when it actually performs. This is difficult to predict and so a wiser strategy is needed which can deliver the benefit.
But first, let’s see how different asset classes have performed and how the returns in them have varied when you consider different time period-
- Equities- Equities have been delivering good returns and 2016 was not bad at all. The Nifty 50 Index have delivered 17% returns in the last one year period. But when you look at 5-year horizon then the index returns stands at 10.63% annually which is a wide difference of what it has delivered in last one year. If we analyze returns of equity mutual funds large cap and mid cap both categories have delivered more than 20% returns in last in 1 year. But measure again for 5 years and the large cap returns comes down to 12% while mid cap remains at 21%. Now can you really decide a five-year investment in based on what it delivers in the last one year? Your expectation will take a hit of you do so. This makes it difficult to chase equities just for returns.
- Gold– India does have an attraction towards this asset class for long but from an investment perspective, it has been considered few year before. Traditionally this asset class has produced around 9% returns but in last few years with the emergence of gold ETFs, we have seen the volatility in this asset class too. From delivering annualized return of 24%, it has come down to 9% and even produced negative returns in last 3 years although long-term returns i.e. 10 year returns still stands at around 10% which is what we have always projected.
- Debt– The fixed Income sector has seen a lot of interest in last few years. With the movement of interest rates, investors experienced good returns from various categories. If a rise in interest rates saw short-term debt delivering double-digit returns the fall in interest rate is making long term funds very attractive. For any investor, it’s difficult to time for entry and exit and so chasing debt returns is difficult. This can be analyzed from the returns of this category. The long-term government securities funds have delivered 17 % in last one year while for 5 years it stands at 10%. The difference is huge if you are chasing for 17% returns.
What Should Investor Do?
For any investor its difficult to time the market as we have seen above that the returns can be highly volatile. Even the best of experts make mistakes while timing. Chasing one asset class also leads to missed opportunities in other asset classes when invested asset is not doing good. So what is the approach investor should take.
Asset Allocation is what investors should follow. Put simply by diversifying investments in different asset classes investor can aim to grab the opportunities arising from the performance of these asset classes at different times. If any one of the asset class performs then the total portfolio will yield good returns.
How Much To Allocate?
If you are convinced that asset allocation is the right approach for investments then next question which will arise is how much to invest in which asset class. Should I invest more in gold or more in equities? There is no straight answer to it. Rather asset allocation is a factor dependent on age, time horizon, own experience and others. In general one thumb rule which is common is investing in equities (100- age). But these are thumb rules and cannot be applied bluntly. The other commonly used investing styles are model portfolios decided based on what kind of investor you are are. You may be listed as Aggressive Investor or a Moderate Investor or a Conservative one. In all of these, model portfolios will be created which you can follow for your investments. So if you are an aggressive investor 70:20:10 is the ratio for you while if you are a conservative investor 40:40:20 may be recommended. Contrary to this if you are listed as a moderate investor you may be recommended to follow a balanced profile with 50:40:10 ratio between equity, debt, and gold. No wrong in such model portfolios except that you still need to understand your financial situation and then see what allocation can be good. You might be a conservative investor but your model portfolio may not yield returns to meet your financial goals and so you may have to enhance your equity investments. Similarly, young investor free from liabilities will be able to invest 75% while mid age investor loaded with a lot of loans and responsibilities may not find comfort ability in taking a high exposure. Thus one’s financial situation derives the right asset allocation for every investor.
The returns from any asset class is surely an important factor in choosing but cannot be the only factor. How that asset class will perform in near future is difficult to predict and job best left to experts. For investors instead of getting lured to the return factor and start chasing the asset class it’s wiser to have a proportion of it in your total portfolio so that whenever it yield good returns they are added to your investments portfolio and you are then chasing Total Returns of your portfolio.
Disclaimer: Index and Mutual Funds Returns data taken from www.valueresearchonline.com