Pm
This document was uploaded by user and they confirmed that they have the permission to share it. If you are author or own the copyright of this book, please report to us by using this DMCA report form. Report DMCA
Overview
Download & View Pm as PDF for free.
More details
- Words: 2,985
- Pages: 79
ASSET ALLOCATION 17TH NOVEMBER,2008. PROF. V.K. AGARAWAL
INTRODUCTION PORTFOLIO MANAGEMENT IS A LONG TERM INVESTMENT BUT IN THE TODAY’S MARKET CONDITIONS IN WHICH THE INDIVIDUAL INVESTORS HAVE LOST THE CONFIDENCE IN THE MARKET DUE TO IT’S UNPREDICTABLE BEHAVIOUR, ARE CONFUSED DUE TO THE WORST LAST WEEK IN OUR MARKET’S HISTORY, MANY PEOPLE HAVE HAD LOST ENOUGH AND CAN’T STAND TO LOSE ANY MORE.
• THE SITUATION THAT HAS UNFOLDED OVER THE PAST FEW WEEKS ESPECIALY HAS HAD A PROFOUND IMPACT ON HOW PEOPLE VIEW THE MARKETS. • PRESENT MARKET IS NOT AN INVESTOR FFRIENDLY MARKET. IT’S MORE A TRADER’S MARKET.
• WE ALL KNOW THAT MARKETS GO UP, GO DOWN, AND DO EVERYTHING IN-BETWEEN. BUT SOME EXPERTS SY THIS TIME IS DIFFERENT. THERE ARE A NUMBER OF UNDERLYING FINANCIAL ISSUES THAT WE HAVEN’T EXPERIENCED BEFORE, AND SOME ARE UNSURE HOW WE’LL RECOVER FROM IT, AND HOW LONG IT MIGHT TAKE. IN SUCH A SCENARIO, HOW WE SHOULD LOOK AT LONG-TERM INVESTING?
ASSET ALLOCATION: MONEY PROPERLY INVESTED DOESN’T TAKE TIME TO APPRECIATE. EARNING MONEY IS JUST NOW ENOUGH IN TODAY’S WORLD. INVESTING IT IN PROPER FIELD IS EQUALLY IMPORTANT. IN OTHER WORDS PROPER ALLOCATION OF THE ASSET IS REQUIRED.
• ASSET ALLOCATION IS THE IMPORTANT PART OF ANY WEALTH MANAGEMENT SERVICES. • IT IS THE FINANCIAL JARGAON FOR DECIDING HOW MUCH TO INVEST IN VARIOUS INVESTMENT CATEGORIES.
PURPOSE: • TO ENHANCE RETURN AND REDUCE RISK. • DIFFERENT CATEGORIES OF ASSETS BEHAVE DIFFERENTLY. • EQUITY STOCKS, FOR INSTANCE, OFFER POTENTIAL FOR BOTH GROWTH AND INCOME, WHILE BONDS OFFER STABILITY AND INCOME. • THE BENEFITS OF DIFFERENT ASSET CATEGORIES CAN BE COMBINED INTO A
• ESTABLISHING A WELL DIVERSIFIED PORTFOLIO MAY ALLOW YOU TO AVOID THE RISKS ASSOCIATED WITH PUTTING AL THE EGGS IN ONE BASKET. • PROPER ASSET ALLOCATION IS IMPORTANT FOR LONG TERM RETURN THAN SPECIFIC INVESTMENT CHOICES. • TO GENERATE ADEQUATE RETURNS TO MEET THE FINANCIAL GOALS AT DESIRED LEVELS OF RISK.
• TO BALANCE RISK BY MEANS OF DIVERSIFYING. • EACH ASSET CLASS HAS DIFFERENT LEVELS OF RETURN AS WELL AS RISK AND THEREFORE WILL BEHAVE AND REACT DIFFERENTLY TO A GIVEN MARKET SITUATION. • PROCESS OF CONSCIOUSLY SPREADING YOUR INVESTMENTS ACROSS VARIOUS ASSET CLASSES IN ORDER TO INSULATE YOUR ENTIRE PORTFOLIO FROM THE POOR PERFORMANCE OF ANY SINGLE
“A GOOD INVESTOR DOES NOT PUT ALL HIS EGGS IN ONE BASKET”.
WHAT IS ASSET ALLOCATION? • ASSET ALLOCATION MEANS DIVERSIFYING YOUR MONEY AMONG DIFFERENT TYPES OF INVESTMENT CATEGORIES, SUCH AS STOCKS, BONDS AND CASH. • THE OBJECT IS TO REDUCE RISK AND ENHANCE RETURN. HENCE, WE NEED TO MANAGE THE PORTFOLIO.
ASSET CLASSES DEFINITION: THE PROCESS OF ALLOCATING MONEY BETWEEN EQUITY STOCKS AND FIXED INCOME SECURITIES SUCH AS BONDS AND FIXED DEPOSITS IS CALLED ASSET CLASSES
IT’S A PORTFOLIO BUILDING. IT’S A PROCESS IF OPTIMIZATION OF THE RETURN AND RISK OF THE INVESTOR. DIVERSIFYING YOUR MONEY AMONG DIFFERENT TYPES OF INVESTMENT CATEGORIES
DIVIDING THE INVESTMENTS BETWEEN ASSET CLASSES: EQUITIES BONDS (RBI RELIEF BONDS, GOVT. OF INDIA SECURITIES) MUTUAL FUNDS REAL ESTATE COMMODITIES (GOLD / SILVER) ANTIQUES / ART
• PROPER ASSET ALLOCATION IS IMPORTANT FOR LONG TERM RETURN THAN SPECIFIC INVESTMENT CHOICES. • TO GENERATE ADEQUATE RETURNS TO MEET THEFINANCIAL GOALS AT DESIRED LEVELS OF RISK. • TO BALANCE RISK BY MEANS OF DIVERSIFYING.
• EACH ASSET CLASS HAS DIFFERENT LEVELS OF RETURN AS WELL AS RISK AND THEREFORE, WILL BEHAVE AND REACT DIFFERENTLY TO A GIVEN MARKET SITUATION. • PROCESS
WHY RESORT TO ASSET ALLOCATION? • TO DIVERSIFY THE RISK (AS DON’T EXPECT EQUITY & BOND MARKET TO FALL AT THE SAME TIME). • SINCE ONE DOES NOT KNOW BEFOREHAND WHAT ECONOMIC SITUATION WOULD BE TOMORROW, IT IS BUT LOGICAL TO INVEST IN MORE THAN ONE ASSET CLASS.
• PROPER ASSET ALLOCATION IS MORE IMPORTANT TO LONG TERM THAN SPECIFICA INVESTMENT CHOICES. • ASSET ALLOCATION IS MORE IMPORTANT THAN SECURITY SELECTION, ESPECIALLY FOR LONG TERM INVESTMENT. • BUT SINCE GUESSING EACH ASSET CATEGORY WILL DO BEST AT A CERTAIN TIME IS VERY DIFFICULT.
• IT CAN MAKE SENSE TO DIVIDE YOUR INVESTMENTS AMONG ASSET CATEGORIES. • UNDERSTANDING THIS STRATEGY CAN BE KEY TO INVESTMENT PROCESS. • MOST INVESTMENTS TEND TO DO WELL WITH NO APPARENT SCIENCE IN BULL PHASES. • SCIENCAE OF INVESTING COMES TO THE FORE WHICH MANAGING INVESTMENTS EITHER IN A BEAR PHASE OR IN TIMES OF EXTREME VOLATILITY.
• DIFFERENT ASSET MAY PEAK AT DIFFERENT TIMES MAY ALSO UNDERPERFORM. • NO ASSET CLASS HAS SINGULARLY OUTPERFORMED OVER THE LONGRUN, WHETHER IT WAS THE BOND FUNDS THAT WERE AT THEIR BEST IN 2000 AND 2001 OR MIDCAPS IN 2002, 2003 OR 2004 OR THE SENSEX IN 2005 AND 2006.
IN SHORT, DIVERSIFICATION IS THE PRACTICE OF SPREADING MONEY ACROSS VARIOUS INVESTMENT SEGMENTS TO REDUCE RISK BY PICKING THE RIGHT GROUP OF INVESTMENT THAT MAY BE ABLE TO LIMIT THE LOSSES. REDUCE THE FLUCTUATION OF INVESTMENT RETURNS WITHOUT HAVING TO FOREGO POTENTIAL
HOW TO DO ASSET ALLOCATION? • DIVIDE THE INVESTMENT BETWEEN THE HIGH AND LOW RISK AND MINIMIZE THE RISK. • BASED ON LONG AND SHORT TERM GOALS OF THE INVESTOR AND DECIDE ON THE ASSET MIX THAT WILL FETCH THEBEST DESIRED RETURNS.
• STICKING TO YOUR ALLOCATION PATTERN WOULD DISCIPLINE YOU TO BUY LOW. • REDUCING THE EQUITY COMPONENT. • OVER THE PAST FOUR / FIVE YEARS BECAUSE OF THE BULL RUN IN EQUITY MARKETS, MOST INVESTORS WOULD HAVE BEEN TEMPTED TO PUT THEIR ENTIR MONEY IN EQUITIES. • IN PAST EIGHT MONTHS DUE TO FAL OF
• WHILE EQUITIES HAVE FALLEN, SAFE ASSETS SUCH AS GOLD HVE SHOWN A RALLY. • IF EQUITY RISE, GOLD WOULD IN ALL PROBABILITY WILL BE FLAT. • IF EQUITY FALLS, SAFER ASSETS LIKE BONDS AND GOLD WOULD PICK UP. • EACH ASSET CLASS HAS DIFFERENT LEVELS OF RETURN AS WELL AS RISK AND THEREFORE WILL BEHAVE AND REACT DIFFERENTLY TO A GIVEN MARKET SITUATION.
BEFORE MAKING INVESTMENT MAKE SURE: LEVEL OF RETURN RISK LIQUIDITY TRANSACTION COSTS
NOTE: • BANK FD PROVIDES COMPLETE PROTECTION AGAINST CAPITAL LOSS • DURING HIGH INFLATION TIMES, BANK DEPOSIT MAY NOT PROVIDE RETURN EVEN TO BEAT INFLATION • CAPITAL VALUE REDUCES IN REAL TERMS EVEN THOUGH THERE IS NO LOSS.
ASSET ALLOCATION DECISIONS INVOLVE 3 IMPORTANT VARIABLES 2.
TIME FRAME
4.
RISK TOLERANCE
6.
PERSONAL CIRCUMSTANCES
DEPENDING ON YOUR AGE, LIFE STYLE AND FAMILY COMMITMENTS, FINANCIAL GOALS YOU NEED TO DEFINE YOUR INVESTMENT OBJECTIVES AND GOALS OF LONG TERM AND SHORT TERM.
ASSET ALLOCATION PROCESS: FIRST APPROACH
FACTORS FOR ALLOCATION OF ASSETS: 3.RISK TOLERANCE 5.INVESTMENT OBJECTIVE 7.TIME HORIZON
1. RISK TOLERANCE (INDIVIDUAL INVESTOR) • DETERMINE RISK TOLERANCE* • DETERMINE THE ASSET* • LIABILITIES* • NETWORTH* IT VARIES INVESTOR TO INVESTOR
THE INDIVIDUAL CAPACITY OF RISK TOLERANCE IS THE STARTING POINT WHICH HAS TO BGE ANALYSED FOR ALLOCATING ASSETS AS IT FOCUSES PSYCOLOGY OF THE INDIVIDUAL INVESTOR*.
IF THE INVESTOR IS RISK TAKING IN NATURE, ASSETS INHIS PORTFOLIO WOULD BE OF A HIGHER RISK . AND IF THE INVESTOR IS RISK AVERSE IN NATURE, THE ASSETS WOULD BE HAVING A LOWER RISK CLASS.
STATE IN LIFE: A YOUNGER PERSON, HAVING A SAFE LIVELIHOOD AND FEW DEPENDENTS, CAN TAKE MORE RISK WHILE CHOOSING HIS PORTFOLIO. IF HE DOES NOT NEED MONEY FOR 25 YEARS AND IS COMFORTABLE WITH THE UPS AND DOWNS OF THE STOCK MARKET, HE MAY CONSIDER AN ASSET ALLOCATION ON HIGHER SIDE IN STOCKS. DEFINITELY NOT 100%.
PRINCIPLE: LOWER THE AGE HIGHER THE RISK AND HIGHER THE AGE LOWER THE RISK THE INVESTORS CAN TAKE. AS THE AGE INCREASE, ABILITY TO TAKE RISK INCREASES*
FINANCIAL INDEPENDENCE VARY DEPENDING ON: • THE RISK PROFILE OF THE INVESTORS • THE AMOUNT OF CAPITAL THEY INVEST • TARGETED CAPITAL • LUCK AND TIMING
HOWEVER, MORE CAREFUL PLANS CANBE CHALLENGED BYSPECIAL, UNFORSEEN CIRCUMSTANCES SUCH AS PRESENT RECESSION, FINANCIAL TURMOIL.
POPULAR APPROACH METHOD FINANCIAL OBJECTIVE METHOD
REQUIRES PLANNING AN INVESTMENT AS PER THE PERSONAL NEEDS AND TAKING A COMMON SENSE APPROACH TOWARDS THE INVESTMENT DECISIONS. IN SHORT, YOU PLAN YOUR FINANCIAL NEEDS IN FUTURE AND INVEST ENOUGH MONEY SO THAT YOU WILL BE ABLE TO REALIZE
RISK PROFILE AND INVESTMENT OBJECTIVES EXAMPLE - 1 STATUS AGE
< 30 YEARS
31 – 45 YEARS
46 – 55 YEARS
56 – 60 YEARS
SINGLE
CAREFREE
BUILDING WEALTH
ADDING TO WEALTH
MARRIED NO KIDS
PROPERTY TOP PRIORITY
BUILDING WEALTH
PLANNING FOR CARE FREE RETIREMENT PLANNING
MARRIED TWO KIDS
PROPERTY TOP PRIORITY
PLANNING CHILDEN’S EDUCATION
PLANNING RETIREMENT FOR CARE FREE RETIREMENT PLANNING PLANNING FOR CHILDREN’S HIGHER EDUCATION
FOR CHILDREN’S FUTURE
RISK PROFILE EXAMPLE - 2 INVESTMENTS
KUMAR (30 YRS.) MARRIED NO CHILDREN
VIVEK (55 YEARS) MARRIED TWO CHILDREN
FIXED INCOME
10%
20%
EQUITIES
30%
20%
PROPERTY
50%
50%
GOLD
5%
5%
CASH
5%
5%
AGGRESSIVE PORTFOLIO • • • •
EMPHASIZES GROWTH STOCKS OR EQUITY FUNDS - 65% BONDS OF FIXED INCOME - 25% SHORT TERM MONEY MARKET FUNDS OR CASH • EQUIVALENTS - 10%
• LONG INVESTMENT TIME FRAME • SHORT TERM EMERGENCIES • MIDTERM GOAL – BUILDING A HOME • LONG TERM GOAL RETIREMENT IN LIE
MODERATE PORTFOLIO THE PORTFOLIO SEEKS TO BALANCE GROWTH AND STABILITY IT RECOMMENDS • STOCKS – 50% • BONDS – 30 % • SHORT TERM – 20%
• REGULAR INCOME WITH MODERATE PROTECTION AGAINST INFLATION. • EQUITY COMPONENT PROVIDES THE POTENTIAL GROWTH WHEREAS THE COMPONENT INBONDS AND SHORT TERM INSTRUMENTS HELP BALANCE OUT FLUCTUATION IN THE STOCK MARKET.
1.
CONSERVATIVE PORTFOLIO
• STOCKS OR EQUITY FUNDS - 25% • BONDS OR FIXED INCOME FUNDS - 50% • MONEY MARKET FUNDS - 25%
CAUTION NET WORTH: IF ONE OWNS GOOD ASSETS AND HAVE FEW LIABILITIES I.E., HAVING A HIGH NET WORTH, ONE CAN AFFORD TO TAKE MORE RISK AS ONE HAS A CUSHION OF ASSET THAT CAN SAFEGUARD ONE FROM SHORT TERM LOSSES OCUCCURING DUE TO MARKET FLUCTUATIONS.
2. INVESTMENT OBJECTIVE A PERSON NEARING RETIREMENT WOULD LIKE TO HAVE A REGULAR INCOME FROM INVESTMENT, WHILE PRESERVING THE CAPITAL VALUE. HENCE, WOULD CHOOSE A SAFER PORTFOLIO FOR INCOME AND STABILITY.
• GROWTH ALONGWITH PRESERVATION OF CAPITAL VALUE INVESTING FOR A GOAL CHILD’S EDUCATION, CAN TAKE SOME MORE RISK IN ANTICIPATION OF HIGHER RETURN BUT NOT AT SUCH A HIGH RISK THAT MIGHT ERODE HIS CAPITAL. • HIGH GROWTH AND INVESTING FOR A GOAL THAT IS NOT VERY IMPORTANT THEN ONE CAN
3. TIME HORIZON • FOR WHICH ONE CAN HOLD AN ITIME NVESTMENT • ALSO IMPACT THE LEVEL OR RISK • IF IT’S A LONG TIME GOAL ONE CAN PERSUE HIGHER RETURN BY INVESTING IN A MORE RISKY PORTFOLIO AS OVER THE PERIOD OF TIME THE RISK REDUCES.
PRINCIPLE LONGER THE INVESTMENT PERIOD LOWER THE RISK, SHORTER THE INVESTMENT PERIOD HIGHER THE RISK. • NEVER BORROW THE FUND FOR INVESTMENT • NEVER INVEST IN HIGHLY SPECULATIVE STOCKS • DEFENSIVE SECTORS ARE GOOD FOR PORTFOLIO MANAGEMENT.
INSTITUTIONS GOAL SHOULD BE DETERMINED IN TERMS OF THE ASSETS REQUIRED TO BE ACCUMULATED BY THE END OF THE INVESTMENT PERIOD. IF GOAL NETWORTH OR SURPLUS OF THE ASSETS OVER LIABILITIES (INSTITUTIONAL INVESTOR), GOAL SHOULD BE IN TERMS OF SURPLUS. HAVING UNDERSTOOD RISK TOLERANCE OF THE INVESTOR AND CURRENT AVAILABLE ASSETS AND NET
SECOND APPROACH • ANALYSIS OF INVESTMENT • OPPORTUNITIES OF CAPITAL MARKET • STUDY THE CURRENT STATE OF THE CAPITAL MARKET • CURRENT LEVELS OF STOCK & BOND INDICES • HISTORICAL CHANGES • INFLATIN PROJECTIONS • REAL ESTATE VALUES IT WILL HELP IN ESTIMATING THE RETURNS AND CORRELATINS AMONG THEIR RETURNS
TYPES OF ASSETS ALLOCATIONS •
STRATEGIC ASSET ALLOCATION
•
TACTICALO ASSET ALLOCATION
1. STRATEGIC ASSET ALLOCATION STRATEGIC ASSET ALLOCATION IS A DIVERSIFICATION METHOD THAT ESTABLISHES AND ADHERES TO A “BASE POLICY MIX’. SCIENTIFICALLY DIVERSIFYING ALLOCATION IN ORDER TO OBTAIN MOST EFFICIENT RISK RETURN COMBINATION IN THE FORM OF THE BEST BASE POLICY MIX. IT’S A LONG RUN CAPITAL MARKET PREDICTION NOTE: DIVERSIFYING ASSETS IS THE KEY TO SRAY WEALTHY.
THIS PROPORTIONAL COMBINATION OF ASSETS BASED ON EXPECTED RATES OF RETURN FROM EACH ASSET CLASS. EXAMPLE: STOCKS - 10% RETURN PER YEAR BONDS -
5% RETURN PER YEAR
A 50 : 50 MIX OF BONDS AND STOCKS WOULD BE EXPECTED TO RETURN 7.5% PER YEAR.
POLICY ASSET ALLOCATION (LONG RUN CAPITAL MARKET PREDICTION) ANALYSIS OF RETURN PROCESS IS CARRIED OUT AT REGULAR TIME GAP (ONCE IN THREE YEAR). PORTFOLIO CONSISTS OF STOCKS & BONDS.
INDIVIDUAL OUTCOME MATURITY ON RETIRMENT OR VALUE OF SAVINGS AFTER 5 YEARS OR 10 YEARS.
INSTITUTIONAL SURPLUS LIKELY TO BE ACHIEVED AFTER YEARS. OR REQUIRED PENSION CONTRIBUTION IN THE NEXT 5 YEARS.
CONSTANT ASSET MIX STRATEGY INVESTOR IS ASKED TO LOOK RANAGE OF OUTCOME AND SELECT THE PREFERRED ONE. IN SUCH ANALYSIS EACH ASSET MIX IS EXPRESSED IN TERMS OF TOTAL AMOUNT INVESTED IN EACH ASSET CLASS.
LONG RUN CAPITAL CONDITIONS • ASSETSEXPECTED RETURNS RISK AND CORRELATIONS REMAIN CONSTANT THROUGH OUT THE STIMULATION PROCESS. • THE MIX OF ASSETS IS HELD CONSTANT OVER THE PERIOD OF TIME. HOWEVER, THE STRATEGY IS NOT SYNONYMOUS WITH THE BUY AND HOLD STRATEGY.
2. TACTICAL ASSET ALLOCATION OVER THE LONG RUN, A STRATEGIC ASSET ALLOCATION STRATEGY MAY SEEM RELATIVELY RIGID. IT MAY THEREFORE, BE NECESSARY TO ENGAGE IN SHORT TERM, TECTICAL DEVIATIONS FROM MIX IN ORDER TO CAPITALISE ON UNUSUAL SITUATION.
SUPPOSE YOU EXPECT RBI TO INCREASE INTEREST RATES. YOU WOULD WANT TO SELL YOUR BOND PORTFOLIO, AS RISE IN INTEREST RATES COULD LEAD TO FALL IN BOND PRICES. YOU MAY USE THAT MONEY TO BUY MORE SHARES OR HOLD CASH TO BUY SHARES AT A LATER DATE.
ALTERNATIVELY, YOU MAY EXPECT TO DECLINE THE STOCK MARKET SHARPLY, YOU MAY BOOK PROFITS AND MOVE INTO FIXED INCOME SECURITIES. LIKE IN PRESENT SITUATION. THIS PROCESS OF FEQUENTLY MOVING MONEY BETWEEN ASSET CLASS IS CALLED TACTICAL ASSET
IT REQUIRES: MARKET TIMING SKILLS RETURNS WILL DEPEND ON SHIFTING FROM ONE ASSET CLASS TO ANOTHER AT THE RIGHT TIME.
TACTCAL ASSET • TACTCAL ASSET ALLOCATION IS AMIMED AT BENEFITING FROM THE SHORT TERM UNDER PRICING OF ASSETS. • IT IS PERFORMED ON A ROUTINE BASIS AS A PART OF THE ACTIVE MANAGEMENT AND IT INVOLVES SWITCHING FUNDS BETWEEN EQUITY, BONDS AND CASH AND IGNORES THE CHANGE IN THE RISK TOLERANCE
• INVESTOR PSYCOLOGY AND MARKET FORCES CAN LEAD TO PREIOD OF MISEVALUATION. A TECHNICAL ALLOCATION PROCESS ATTEMPTS TO CAPTURE THESE MISEVALUATION. • IN PRESENT SITUATION BEAR ANDBULL TRYING TO DOMINATE EACH OTHER. • NEEDS TO BE FLEXIBLE TO AVAIL ADVANTAGE OF SHORT TERM OPPORTUNITIES. • ALLOWING YOU TO PARTICIPATE IN ECONOMIC CONDITIONS.
CONSTANT – WEIGHTAGE ALLOCATION: • IF ONE ASSET WERE DECLINING IN VALUE, YOU WOULD PURCHASE MORE OF THAT ASSET, AND IF THAT ASSET VALUE INCREASE, YOU WOULD SELL IT. • NO HARD AND FAST RULE FOR TIMING OF PORTFOLIO REBALANCING UNDER STRATEGIV OR CONSTANT WEIGHTING ASSET ALLOCATION. • HOWEVER, A COMMON RULE OF THUMB IS THAT THE PORTFOLIO SHOULD BE REBALANCED TO ITS ORIGINAL MIX WHEN ANY GIVEN ASSET CLASS MOVES MORE THAN 5% FROM ITS ORIGINAL VALUE.
CONSTANT ASSET MIX STRATEGY: STRATEGY IN WHICH THE MIX OF THE ASSETS IS HELD CONSTANT OVER A PERIOD OF TIME. IT HAS NOTHING TO DO WITH BUY AND HOLD STRATEGY.
DYNAMIC ASSET ALLOCATION RELATED TO RISE AND FALL OF MARKETS DEPENDS ON STRONG AND WEAK ECONOMY. IF MARKET IS SHOWING WEAKNESS, YOU SELL STOCKS IN ANTICIPATION OF FURTHER DECREASE. IF MARKET IS STRONG, YOU PURCHASE STOCKS IN ANTICIPATION OF
INSURED ASSET ALLOCATION IT IS AIMED AT ACHIEVING THE OBJECTIVES OF INVESTOR WITHOUTDEPENDING ON MARKET TIMINGS, UNLIKE TACTICAL ASSET ALOCATION. • MORE SUITABLE TO LONG TERM INVESTORS • INSURED ASSET ALLOCATIN SWITCHES MAINLY BETWEEN STOCKS AND TSREASURY BILLS • BASICALLY THIS STRATEGY IS BASED ON THE ASSUMPTIONS THAT EXPECTED RETURNS, RISKS AND CORRELATIONS
100 MINUS YOUR AGE METHOD: PERCENTAGE OF YOUR TOTAL INVESTMENT THAT CAN BE INVESTED IN EQUITIES DEPENDS ON YOUR AGE AND IS BASED ON THE PRESSUMPTION THAT YOU WILL LIVE UP TO 100 YEARS. • INVESTMENTS TO BE PLACED IN EQUITIES 100 MINUS YOUR AGE. • REST MAYBE PLACED IN BOND AND OTHER SAFE INVESTMENTS.
YOUR AGE
100 MINUS YOUR AGE
% INVESTME NT IN EQUITIES 70
% INVESTME NT IN BONDS 30
30
70
40
60
60
40
50
50
50
50
60
40
40
60
70
30
20
70
% INVESTME NT IN FDS
ASSET ALLOCATION IS NOT A ONE – TIME PROCESS; RATHER PURSUED ON AN ONGOING BASIS.
IT
MUST
BE
CHANGES IN MARKET CONDITIONS: IT ACTUALY REACTS TO THE CHANGES IN THE PREDICTED CAPTIAL MARKET CONDITIONS RATHER THANT HE VARIATIONS IN INVESTOR RISK TOLERANCE. ASSET ALLOCATION MANAGEMENT STYLE: MULTIPLE FUNDS NUMBER OF SECURITIES
• EXPOSURE OF EACH ASSET CLAS S RELATES TO MOVEMENTS IN THEIR RETURNS. • IT ALSO HELPS IN DETERMINING THEFUND MANAGERS PERFORMANCE.
STYLE OF ANALYSIS • USE OF QUADRATIC PROGRAMMING FOR THE PURPOSE OF DETERMINING A FUND’S EXPOSURE TO THECHANGES IN RETURNS OF THE ASSET CLASSES. • SELECTING A STYLE THAT MINIMIZES THE VARIANCE OF THE DIFFERERENCE BETWEEN THE RETURN OF THE FUND AND THE PASSIVE
RAPIDLY CHANGING MARKET CONDITIONS • PREDICT PRESENT AND FUTURE MARKET CONDITIONS • SPECIFIED FLOOR VALUE • RISKY ASSETS CAN BE SOLD AT THE APPROPRIATE TIME WHEN THEPRICE OF ASSET FALLS • SELL MORE RISKY STOCKS
OTHER POPULAR APPROACH CASHFLOW NEEDS METHOD
• PROJECTING CASH FLOW OF THE FUTURE AND ESTIMATING THE DEFICIT, IF ANY. • INVESTMENT WILL THEN FILL IN THE DEFICIT. • THE SOURCES OF INCOME MAY BE WAGES & SALARY • PENSION PAYMENTS • INTEREST & DIVIDEND INCOME ON INVESTMENTS ALREADY MADE • RENTAL IONCOME FROM PROPERTIES • SALE PROCEEDS OF PROPERTIES
RISK TOLERANCE METHOD • RISK REVERSE PERSONWIL INVEST AL OR MOST OF STHE FUND IN LOW RISK INVESTMENTS. • A RISK LOVER MAY INVEST IN HIGH RISK INSTRUMENTS.
100 COMMON STOCKS FOR LONG RUN • LONG TERM INVESTMENTS • ENTIRE FUND IS INVESTED IN EQUITY STOCKS • WHENSTOCKS MARKETS ARE ON A HIGH AND FALLS IN POPULARITY ALONGWITH THE MARKETS • THERE IS NO OTHER BASIS SCIENTIFIC OR OTHERWISE, FOR IT.
INTRODUCTION PORTFOLIO MANAGEMENT IS A LONG TERM INVESTMENT BUT IN THE TODAY’S MARKET CONDITIONS IN WHICH THE INDIVIDUAL INVESTORS HAVE LOST THE CONFIDENCE IN THE MARKET DUE TO IT’S UNPREDICTABLE BEHAVIOUR, ARE CONFUSED DUE TO THE WORST LAST WEEK IN OUR MARKET’S HISTORY, MANY PEOPLE HAVE HAD LOST ENOUGH AND CAN’T STAND TO LOSE ANY MORE.
• THE SITUATION THAT HAS UNFOLDED OVER THE PAST FEW WEEKS ESPECIALY HAS HAD A PROFOUND IMPACT ON HOW PEOPLE VIEW THE MARKETS. • PRESENT MARKET IS NOT AN INVESTOR FFRIENDLY MARKET. IT’S MORE A TRADER’S MARKET.
• WE ALL KNOW THAT MARKETS GO UP, GO DOWN, AND DO EVERYTHING IN-BETWEEN. BUT SOME EXPERTS SY THIS TIME IS DIFFERENT. THERE ARE A NUMBER OF UNDERLYING FINANCIAL ISSUES THAT WE HAVEN’T EXPERIENCED BEFORE, AND SOME ARE UNSURE HOW WE’LL RECOVER FROM IT, AND HOW LONG IT MIGHT TAKE. IN SUCH A SCENARIO, HOW WE SHOULD LOOK AT LONG-TERM INVESTING?
ASSET ALLOCATION: MONEY PROPERLY INVESTED DOESN’T TAKE TIME TO APPRECIATE. EARNING MONEY IS JUST NOW ENOUGH IN TODAY’S WORLD. INVESTING IT IN PROPER FIELD IS EQUALLY IMPORTANT. IN OTHER WORDS PROPER ALLOCATION OF THE ASSET IS REQUIRED.
• ASSET ALLOCATION IS THE IMPORTANT PART OF ANY WEALTH MANAGEMENT SERVICES. • IT IS THE FINANCIAL JARGAON FOR DECIDING HOW MUCH TO INVEST IN VARIOUS INVESTMENT CATEGORIES.
PURPOSE: • TO ENHANCE RETURN AND REDUCE RISK. • DIFFERENT CATEGORIES OF ASSETS BEHAVE DIFFERENTLY. • EQUITY STOCKS, FOR INSTANCE, OFFER POTENTIAL FOR BOTH GROWTH AND INCOME, WHILE BONDS OFFER STABILITY AND INCOME. • THE BENEFITS OF DIFFERENT ASSET CATEGORIES CAN BE COMBINED INTO A
• ESTABLISHING A WELL DIVERSIFIED PORTFOLIO MAY ALLOW YOU TO AVOID THE RISKS ASSOCIATED WITH PUTTING AL THE EGGS IN ONE BASKET. • PROPER ASSET ALLOCATION IS IMPORTANT FOR LONG TERM RETURN THAN SPECIFIC INVESTMENT CHOICES. • TO GENERATE ADEQUATE RETURNS TO MEET THE FINANCIAL GOALS AT DESIRED LEVELS OF RISK.
• TO BALANCE RISK BY MEANS OF DIVERSIFYING. • EACH ASSET CLASS HAS DIFFERENT LEVELS OF RETURN AS WELL AS RISK AND THEREFORE WILL BEHAVE AND REACT DIFFERENTLY TO A GIVEN MARKET SITUATION. • PROCESS OF CONSCIOUSLY SPREADING YOUR INVESTMENTS ACROSS VARIOUS ASSET CLASSES IN ORDER TO INSULATE YOUR ENTIRE PORTFOLIO FROM THE POOR PERFORMANCE OF ANY SINGLE
“A GOOD INVESTOR DOES NOT PUT ALL HIS EGGS IN ONE BASKET”.
WHAT IS ASSET ALLOCATION? • ASSET ALLOCATION MEANS DIVERSIFYING YOUR MONEY AMONG DIFFERENT TYPES OF INVESTMENT CATEGORIES, SUCH AS STOCKS, BONDS AND CASH. • THE OBJECT IS TO REDUCE RISK AND ENHANCE RETURN. HENCE, WE NEED TO MANAGE THE PORTFOLIO.
ASSET CLASSES DEFINITION: THE PROCESS OF ALLOCATING MONEY BETWEEN EQUITY STOCKS AND FIXED INCOME SECURITIES SUCH AS BONDS AND FIXED DEPOSITS IS CALLED ASSET CLASSES
IT’S A PORTFOLIO BUILDING. IT’S A PROCESS IF OPTIMIZATION OF THE RETURN AND RISK OF THE INVESTOR. DIVERSIFYING YOUR MONEY AMONG DIFFERENT TYPES OF INVESTMENT CATEGORIES
DIVIDING THE INVESTMENTS BETWEEN ASSET CLASSES: EQUITIES BONDS (RBI RELIEF BONDS, GOVT. OF INDIA SECURITIES) MUTUAL FUNDS REAL ESTATE COMMODITIES (GOLD / SILVER) ANTIQUES / ART
• PROPER ASSET ALLOCATION IS IMPORTANT FOR LONG TERM RETURN THAN SPECIFIC INVESTMENT CHOICES. • TO GENERATE ADEQUATE RETURNS TO MEET THEFINANCIAL GOALS AT DESIRED LEVELS OF RISK. • TO BALANCE RISK BY MEANS OF DIVERSIFYING.
• EACH ASSET CLASS HAS DIFFERENT LEVELS OF RETURN AS WELL AS RISK AND THEREFORE, WILL BEHAVE AND REACT DIFFERENTLY TO A GIVEN MARKET SITUATION. • PROCESS
WHY RESORT TO ASSET ALLOCATION? • TO DIVERSIFY THE RISK (AS DON’T EXPECT EQUITY & BOND MARKET TO FALL AT THE SAME TIME). • SINCE ONE DOES NOT KNOW BEFOREHAND WHAT ECONOMIC SITUATION WOULD BE TOMORROW, IT IS BUT LOGICAL TO INVEST IN MORE THAN ONE ASSET CLASS.
• PROPER ASSET ALLOCATION IS MORE IMPORTANT TO LONG TERM THAN SPECIFICA INVESTMENT CHOICES. • ASSET ALLOCATION IS MORE IMPORTANT THAN SECURITY SELECTION, ESPECIALLY FOR LONG TERM INVESTMENT. • BUT SINCE GUESSING EACH ASSET CATEGORY WILL DO BEST AT A CERTAIN TIME IS VERY DIFFICULT.
• IT CAN MAKE SENSE TO DIVIDE YOUR INVESTMENTS AMONG ASSET CATEGORIES. • UNDERSTANDING THIS STRATEGY CAN BE KEY TO INVESTMENT PROCESS. • MOST INVESTMENTS TEND TO DO WELL WITH NO APPARENT SCIENCE IN BULL PHASES. • SCIENCAE OF INVESTING COMES TO THE FORE WHICH MANAGING INVESTMENTS EITHER IN A BEAR PHASE OR IN TIMES OF EXTREME VOLATILITY.
• DIFFERENT ASSET MAY PEAK AT DIFFERENT TIMES MAY ALSO UNDERPERFORM. • NO ASSET CLASS HAS SINGULARLY OUTPERFORMED OVER THE LONGRUN, WHETHER IT WAS THE BOND FUNDS THAT WERE AT THEIR BEST IN 2000 AND 2001 OR MIDCAPS IN 2002, 2003 OR 2004 OR THE SENSEX IN 2005 AND 2006.
IN SHORT, DIVERSIFICATION IS THE PRACTICE OF SPREADING MONEY ACROSS VARIOUS INVESTMENT SEGMENTS TO REDUCE RISK BY PICKING THE RIGHT GROUP OF INVESTMENT THAT MAY BE ABLE TO LIMIT THE LOSSES. REDUCE THE FLUCTUATION OF INVESTMENT RETURNS WITHOUT HAVING TO FOREGO POTENTIAL
HOW TO DO ASSET ALLOCATION? • DIVIDE THE INVESTMENT BETWEEN THE HIGH AND LOW RISK AND MINIMIZE THE RISK. • BASED ON LONG AND SHORT TERM GOALS OF THE INVESTOR AND DECIDE ON THE ASSET MIX THAT WILL FETCH THEBEST DESIRED RETURNS.
• STICKING TO YOUR ALLOCATION PATTERN WOULD DISCIPLINE YOU TO BUY LOW. • REDUCING THE EQUITY COMPONENT. • OVER THE PAST FOUR / FIVE YEARS BECAUSE OF THE BULL RUN IN EQUITY MARKETS, MOST INVESTORS WOULD HAVE BEEN TEMPTED TO PUT THEIR ENTIR MONEY IN EQUITIES. • IN PAST EIGHT MONTHS DUE TO FAL OF
• WHILE EQUITIES HAVE FALLEN, SAFE ASSETS SUCH AS GOLD HVE SHOWN A RALLY. • IF EQUITY RISE, GOLD WOULD IN ALL PROBABILITY WILL BE FLAT. • IF EQUITY FALLS, SAFER ASSETS LIKE BONDS AND GOLD WOULD PICK UP. • EACH ASSET CLASS HAS DIFFERENT LEVELS OF RETURN AS WELL AS RISK AND THEREFORE WILL BEHAVE AND REACT DIFFERENTLY TO A GIVEN MARKET SITUATION.
BEFORE MAKING INVESTMENT MAKE SURE: LEVEL OF RETURN RISK LIQUIDITY TRANSACTION COSTS
NOTE: • BANK FD PROVIDES COMPLETE PROTECTION AGAINST CAPITAL LOSS • DURING HIGH INFLATION TIMES, BANK DEPOSIT MAY NOT PROVIDE RETURN EVEN TO BEAT INFLATION • CAPITAL VALUE REDUCES IN REAL TERMS EVEN THOUGH THERE IS NO LOSS.
ASSET ALLOCATION DECISIONS INVOLVE 3 IMPORTANT VARIABLES 2.
TIME FRAME
4.
RISK TOLERANCE
6.
PERSONAL CIRCUMSTANCES
DEPENDING ON YOUR AGE, LIFE STYLE AND FAMILY COMMITMENTS, FINANCIAL GOALS YOU NEED TO DEFINE YOUR INVESTMENT OBJECTIVES AND GOALS OF LONG TERM AND SHORT TERM.
ASSET ALLOCATION PROCESS: FIRST APPROACH
FACTORS FOR ALLOCATION OF ASSETS: 3.RISK TOLERANCE 5.INVESTMENT OBJECTIVE 7.TIME HORIZON
1. RISK TOLERANCE (INDIVIDUAL INVESTOR) • DETERMINE RISK TOLERANCE* • DETERMINE THE ASSET* • LIABILITIES* • NETWORTH* IT VARIES INVESTOR TO INVESTOR
THE INDIVIDUAL CAPACITY OF RISK TOLERANCE IS THE STARTING POINT WHICH HAS TO BGE ANALYSED FOR ALLOCATING ASSETS AS IT FOCUSES PSYCOLOGY OF THE INDIVIDUAL INVESTOR*.
IF THE INVESTOR IS RISK TAKING IN NATURE, ASSETS INHIS PORTFOLIO WOULD BE OF A HIGHER RISK . AND IF THE INVESTOR IS RISK AVERSE IN NATURE, THE ASSETS WOULD BE HAVING A LOWER RISK CLASS.
STATE IN LIFE: A YOUNGER PERSON, HAVING A SAFE LIVELIHOOD AND FEW DEPENDENTS, CAN TAKE MORE RISK WHILE CHOOSING HIS PORTFOLIO. IF HE DOES NOT NEED MONEY FOR 25 YEARS AND IS COMFORTABLE WITH THE UPS AND DOWNS OF THE STOCK MARKET, HE MAY CONSIDER AN ASSET ALLOCATION ON HIGHER SIDE IN STOCKS. DEFINITELY NOT 100%.
PRINCIPLE: LOWER THE AGE HIGHER THE RISK AND HIGHER THE AGE LOWER THE RISK THE INVESTORS CAN TAKE. AS THE AGE INCREASE, ABILITY TO TAKE RISK INCREASES*
FINANCIAL INDEPENDENCE VARY DEPENDING ON: • THE RISK PROFILE OF THE INVESTORS • THE AMOUNT OF CAPITAL THEY INVEST • TARGETED CAPITAL • LUCK AND TIMING
HOWEVER, MORE CAREFUL PLANS CANBE CHALLENGED BYSPECIAL, UNFORSEEN CIRCUMSTANCES SUCH AS PRESENT RECESSION, FINANCIAL TURMOIL.
POPULAR APPROACH METHOD FINANCIAL OBJECTIVE METHOD
REQUIRES PLANNING AN INVESTMENT AS PER THE PERSONAL NEEDS AND TAKING A COMMON SENSE APPROACH TOWARDS THE INVESTMENT DECISIONS. IN SHORT, YOU PLAN YOUR FINANCIAL NEEDS IN FUTURE AND INVEST ENOUGH MONEY SO THAT YOU WILL BE ABLE TO REALIZE
RISK PROFILE AND INVESTMENT OBJECTIVES EXAMPLE - 1 STATUS AGE
< 30 YEARS
31 – 45 YEARS
46 – 55 YEARS
56 – 60 YEARS
SINGLE
CAREFREE
BUILDING WEALTH
ADDING TO WEALTH
MARRIED NO KIDS
PROPERTY TOP PRIORITY
BUILDING WEALTH
PLANNING FOR CARE FREE RETIREMENT PLANNING
MARRIED TWO KIDS
PROPERTY TOP PRIORITY
PLANNING CHILDEN’S EDUCATION
PLANNING RETIREMENT FOR CARE FREE RETIREMENT PLANNING PLANNING FOR CHILDREN’S HIGHER EDUCATION
FOR CHILDREN’S FUTURE
RISK PROFILE EXAMPLE - 2 INVESTMENTS
KUMAR (30 YRS.) MARRIED NO CHILDREN
VIVEK (55 YEARS) MARRIED TWO CHILDREN
FIXED INCOME
10%
20%
EQUITIES
30%
20%
PROPERTY
50%
50%
GOLD
5%
5%
CASH
5%
5%
AGGRESSIVE PORTFOLIO • • • •
EMPHASIZES GROWTH STOCKS OR EQUITY FUNDS - 65% BONDS OF FIXED INCOME - 25% SHORT TERM MONEY MARKET FUNDS OR CASH • EQUIVALENTS - 10%
• LONG INVESTMENT TIME FRAME • SHORT TERM EMERGENCIES • MIDTERM GOAL – BUILDING A HOME • LONG TERM GOAL RETIREMENT IN LIE
MODERATE PORTFOLIO THE PORTFOLIO SEEKS TO BALANCE GROWTH AND STABILITY IT RECOMMENDS • STOCKS – 50% • BONDS – 30 % • SHORT TERM – 20%
• REGULAR INCOME WITH MODERATE PROTECTION AGAINST INFLATION. • EQUITY COMPONENT PROVIDES THE POTENTIAL GROWTH WHEREAS THE COMPONENT INBONDS AND SHORT TERM INSTRUMENTS HELP BALANCE OUT FLUCTUATION IN THE STOCK MARKET.
1.
CONSERVATIVE PORTFOLIO
• STOCKS OR EQUITY FUNDS - 25% • BONDS OR FIXED INCOME FUNDS - 50% • MONEY MARKET FUNDS - 25%
CAUTION NET WORTH: IF ONE OWNS GOOD ASSETS AND HAVE FEW LIABILITIES I.E., HAVING A HIGH NET WORTH, ONE CAN AFFORD TO TAKE MORE RISK AS ONE HAS A CUSHION OF ASSET THAT CAN SAFEGUARD ONE FROM SHORT TERM LOSSES OCUCCURING DUE TO MARKET FLUCTUATIONS.
2. INVESTMENT OBJECTIVE A PERSON NEARING RETIREMENT WOULD LIKE TO HAVE A REGULAR INCOME FROM INVESTMENT, WHILE PRESERVING THE CAPITAL VALUE. HENCE, WOULD CHOOSE A SAFER PORTFOLIO FOR INCOME AND STABILITY.
• GROWTH ALONGWITH PRESERVATION OF CAPITAL VALUE INVESTING FOR A GOAL CHILD’S EDUCATION, CAN TAKE SOME MORE RISK IN ANTICIPATION OF HIGHER RETURN BUT NOT AT SUCH A HIGH RISK THAT MIGHT ERODE HIS CAPITAL. • HIGH GROWTH AND INVESTING FOR A GOAL THAT IS NOT VERY IMPORTANT THEN ONE CAN
3. TIME HORIZON • FOR WHICH ONE CAN HOLD AN ITIME NVESTMENT • ALSO IMPACT THE LEVEL OR RISK • IF IT’S A LONG TIME GOAL ONE CAN PERSUE HIGHER RETURN BY INVESTING IN A MORE RISKY PORTFOLIO AS OVER THE PERIOD OF TIME THE RISK REDUCES.
PRINCIPLE LONGER THE INVESTMENT PERIOD LOWER THE RISK, SHORTER THE INVESTMENT PERIOD HIGHER THE RISK. • NEVER BORROW THE FUND FOR INVESTMENT • NEVER INVEST IN HIGHLY SPECULATIVE STOCKS • DEFENSIVE SECTORS ARE GOOD FOR PORTFOLIO MANAGEMENT.
INSTITUTIONS GOAL SHOULD BE DETERMINED IN TERMS OF THE ASSETS REQUIRED TO BE ACCUMULATED BY THE END OF THE INVESTMENT PERIOD. IF GOAL NETWORTH OR SURPLUS OF THE ASSETS OVER LIABILITIES (INSTITUTIONAL INVESTOR), GOAL SHOULD BE IN TERMS OF SURPLUS. HAVING UNDERSTOOD RISK TOLERANCE OF THE INVESTOR AND CURRENT AVAILABLE ASSETS AND NET
SECOND APPROACH • ANALYSIS OF INVESTMENT • OPPORTUNITIES OF CAPITAL MARKET • STUDY THE CURRENT STATE OF THE CAPITAL MARKET • CURRENT LEVELS OF STOCK & BOND INDICES • HISTORICAL CHANGES • INFLATIN PROJECTIONS • REAL ESTATE VALUES IT WILL HELP IN ESTIMATING THE RETURNS AND CORRELATINS AMONG THEIR RETURNS
TYPES OF ASSETS ALLOCATIONS •
STRATEGIC ASSET ALLOCATION
•
TACTICALO ASSET ALLOCATION
1. STRATEGIC ASSET ALLOCATION STRATEGIC ASSET ALLOCATION IS A DIVERSIFICATION METHOD THAT ESTABLISHES AND ADHERES TO A “BASE POLICY MIX’. SCIENTIFICALLY DIVERSIFYING ALLOCATION IN ORDER TO OBTAIN MOST EFFICIENT RISK RETURN COMBINATION IN THE FORM OF THE BEST BASE POLICY MIX. IT’S A LONG RUN CAPITAL MARKET PREDICTION NOTE: DIVERSIFYING ASSETS IS THE KEY TO SRAY WEALTHY.
THIS PROPORTIONAL COMBINATION OF ASSETS BASED ON EXPECTED RATES OF RETURN FROM EACH ASSET CLASS. EXAMPLE: STOCKS - 10% RETURN PER YEAR BONDS -
5% RETURN PER YEAR
A 50 : 50 MIX OF BONDS AND STOCKS WOULD BE EXPECTED TO RETURN 7.5% PER YEAR.
POLICY ASSET ALLOCATION (LONG RUN CAPITAL MARKET PREDICTION) ANALYSIS OF RETURN PROCESS IS CARRIED OUT AT REGULAR TIME GAP (ONCE IN THREE YEAR). PORTFOLIO CONSISTS OF STOCKS & BONDS.
INDIVIDUAL OUTCOME MATURITY ON RETIRMENT OR VALUE OF SAVINGS AFTER 5 YEARS OR 10 YEARS.
INSTITUTIONAL SURPLUS LIKELY TO BE ACHIEVED AFTER YEARS. OR REQUIRED PENSION CONTRIBUTION IN THE NEXT 5 YEARS.
CONSTANT ASSET MIX STRATEGY INVESTOR IS ASKED TO LOOK RANAGE OF OUTCOME AND SELECT THE PREFERRED ONE. IN SUCH ANALYSIS EACH ASSET MIX IS EXPRESSED IN TERMS OF TOTAL AMOUNT INVESTED IN EACH ASSET CLASS.
LONG RUN CAPITAL CONDITIONS • ASSETSEXPECTED RETURNS RISK AND CORRELATIONS REMAIN CONSTANT THROUGH OUT THE STIMULATION PROCESS. • THE MIX OF ASSETS IS HELD CONSTANT OVER THE PERIOD OF TIME. HOWEVER, THE STRATEGY IS NOT SYNONYMOUS WITH THE BUY AND HOLD STRATEGY.
2. TACTICAL ASSET ALLOCATION OVER THE LONG RUN, A STRATEGIC ASSET ALLOCATION STRATEGY MAY SEEM RELATIVELY RIGID. IT MAY THEREFORE, BE NECESSARY TO ENGAGE IN SHORT TERM, TECTICAL DEVIATIONS FROM MIX IN ORDER TO CAPITALISE ON UNUSUAL SITUATION.
SUPPOSE YOU EXPECT RBI TO INCREASE INTEREST RATES. YOU WOULD WANT TO SELL YOUR BOND PORTFOLIO, AS RISE IN INTEREST RATES COULD LEAD TO FALL IN BOND PRICES. YOU MAY USE THAT MONEY TO BUY MORE SHARES OR HOLD CASH TO BUY SHARES AT A LATER DATE.
ALTERNATIVELY, YOU MAY EXPECT TO DECLINE THE STOCK MARKET SHARPLY, YOU MAY BOOK PROFITS AND MOVE INTO FIXED INCOME SECURITIES. LIKE IN PRESENT SITUATION. THIS PROCESS OF FEQUENTLY MOVING MONEY BETWEEN ASSET CLASS IS CALLED TACTICAL ASSET
IT REQUIRES: MARKET TIMING SKILLS RETURNS WILL DEPEND ON SHIFTING FROM ONE ASSET CLASS TO ANOTHER AT THE RIGHT TIME.
TACTCAL ASSET • TACTCAL ASSET ALLOCATION IS AMIMED AT BENEFITING FROM THE SHORT TERM UNDER PRICING OF ASSETS. • IT IS PERFORMED ON A ROUTINE BASIS AS A PART OF THE ACTIVE MANAGEMENT AND IT INVOLVES SWITCHING FUNDS BETWEEN EQUITY, BONDS AND CASH AND IGNORES THE CHANGE IN THE RISK TOLERANCE
• INVESTOR PSYCOLOGY AND MARKET FORCES CAN LEAD TO PREIOD OF MISEVALUATION. A TECHNICAL ALLOCATION PROCESS ATTEMPTS TO CAPTURE THESE MISEVALUATION. • IN PRESENT SITUATION BEAR ANDBULL TRYING TO DOMINATE EACH OTHER. • NEEDS TO BE FLEXIBLE TO AVAIL ADVANTAGE OF SHORT TERM OPPORTUNITIES. • ALLOWING YOU TO PARTICIPATE IN ECONOMIC CONDITIONS.
CONSTANT – WEIGHTAGE ALLOCATION: • IF ONE ASSET WERE DECLINING IN VALUE, YOU WOULD PURCHASE MORE OF THAT ASSET, AND IF THAT ASSET VALUE INCREASE, YOU WOULD SELL IT. • NO HARD AND FAST RULE FOR TIMING OF PORTFOLIO REBALANCING UNDER STRATEGIV OR CONSTANT WEIGHTING ASSET ALLOCATION. • HOWEVER, A COMMON RULE OF THUMB IS THAT THE PORTFOLIO SHOULD BE REBALANCED TO ITS ORIGINAL MIX WHEN ANY GIVEN ASSET CLASS MOVES MORE THAN 5% FROM ITS ORIGINAL VALUE.
CONSTANT ASSET MIX STRATEGY: STRATEGY IN WHICH THE MIX OF THE ASSETS IS HELD CONSTANT OVER A PERIOD OF TIME. IT HAS NOTHING TO DO WITH BUY AND HOLD STRATEGY.
DYNAMIC ASSET ALLOCATION RELATED TO RISE AND FALL OF MARKETS DEPENDS ON STRONG AND WEAK ECONOMY. IF MARKET IS SHOWING WEAKNESS, YOU SELL STOCKS IN ANTICIPATION OF FURTHER DECREASE. IF MARKET IS STRONG, YOU PURCHASE STOCKS IN ANTICIPATION OF
INSURED ASSET ALLOCATION IT IS AIMED AT ACHIEVING THE OBJECTIVES OF INVESTOR WITHOUTDEPENDING ON MARKET TIMINGS, UNLIKE TACTICAL ASSET ALOCATION. • MORE SUITABLE TO LONG TERM INVESTORS • INSURED ASSET ALLOCATIN SWITCHES MAINLY BETWEEN STOCKS AND TSREASURY BILLS • BASICALLY THIS STRATEGY IS BASED ON THE ASSUMPTIONS THAT EXPECTED RETURNS, RISKS AND CORRELATIONS
100 MINUS YOUR AGE METHOD: PERCENTAGE OF YOUR TOTAL INVESTMENT THAT CAN BE INVESTED IN EQUITIES DEPENDS ON YOUR AGE AND IS BASED ON THE PRESSUMPTION THAT YOU WILL LIVE UP TO 100 YEARS. • INVESTMENTS TO BE PLACED IN EQUITIES 100 MINUS YOUR AGE. • REST MAYBE PLACED IN BOND AND OTHER SAFE INVESTMENTS.
YOUR AGE
100 MINUS YOUR AGE
% INVESTME NT IN EQUITIES 70
% INVESTME NT IN BONDS 30
30
70
40
60
60
40
50
50
50
50
60
40
40
60
70
30
20
70
% INVESTME NT IN FDS
ASSET ALLOCATION IS NOT A ONE – TIME PROCESS; RATHER PURSUED ON AN ONGOING BASIS.
IT
MUST
BE
CHANGES IN MARKET CONDITIONS: IT ACTUALY REACTS TO THE CHANGES IN THE PREDICTED CAPTIAL MARKET CONDITIONS RATHER THANT HE VARIATIONS IN INVESTOR RISK TOLERANCE. ASSET ALLOCATION MANAGEMENT STYLE: MULTIPLE FUNDS NUMBER OF SECURITIES
• EXPOSURE OF EACH ASSET CLAS S RELATES TO MOVEMENTS IN THEIR RETURNS. • IT ALSO HELPS IN DETERMINING THEFUND MANAGERS PERFORMANCE.
STYLE OF ANALYSIS • USE OF QUADRATIC PROGRAMMING FOR THE PURPOSE OF DETERMINING A FUND’S EXPOSURE TO THECHANGES IN RETURNS OF THE ASSET CLASSES. • SELECTING A STYLE THAT MINIMIZES THE VARIANCE OF THE DIFFERERENCE BETWEEN THE RETURN OF THE FUND AND THE PASSIVE
RAPIDLY CHANGING MARKET CONDITIONS • PREDICT PRESENT AND FUTURE MARKET CONDITIONS • SPECIFIED FLOOR VALUE • RISKY ASSETS CAN BE SOLD AT THE APPROPRIATE TIME WHEN THEPRICE OF ASSET FALLS • SELL MORE RISKY STOCKS
OTHER POPULAR APPROACH CASHFLOW NEEDS METHOD
• PROJECTING CASH FLOW OF THE FUTURE AND ESTIMATING THE DEFICIT, IF ANY. • INVESTMENT WILL THEN FILL IN THE DEFICIT. • THE SOURCES OF INCOME MAY BE WAGES & SALARY • PENSION PAYMENTS • INTEREST & DIVIDEND INCOME ON INVESTMENTS ALREADY MADE • RENTAL IONCOME FROM PROPERTIES • SALE PROCEEDS OF PROPERTIES
RISK TOLERANCE METHOD • RISK REVERSE PERSONWIL INVEST AL OR MOST OF STHE FUND IN LOW RISK INVESTMENTS. • A RISK LOVER MAY INVEST IN HIGH RISK INSTRUMENTS.
100 COMMON STOCKS FOR LONG RUN • LONG TERM INVESTMENTS • ENTIRE FUND IS INVESTED IN EQUITY STOCKS • WHENSTOCKS MARKETS ARE ON A HIGH AND FALLS IN POPULARITY ALONGWITH THE MARKETS • THERE IS NO OTHER BASIS SCIENTIFIC OR OTHERWISE, FOR IT.
