Simran has just landed her first job. She is excited about her new job, but also keen to save and invest in her future. However, just like many others, she is confused about where she should start.
Some of her friends are trading in the stock market while others are thinking about invest in PPF. But, Simran is way too worried and is pondering over her investment options as she does not want to take too much risk with her hard-earned money.
Though bank deposits are a safer option, the fixed return is not appealing to her. When it comes to investing in a mutual fund, she is not sure which mutual fund she should buy and invest in, as there are plenty of choices.
So how should she make her investment choices, so that over a while she can save and build wealth too?
Does Simran`s story sound familiar to your own? Don`t worry! You are not alone!
Only 4% of Indians prefer to invest in stocks, and exchanges along with many scams are to be blamed for keeping them away from equity markets.
“We have a market that is not safe for investors to a large extent”, says Ashish Kumar Chauhan, CEO & Managing Director of Bombay Stock Exchange.
And with thousands of bonds, stocks, and mutual funds to choose from, making the right decision to invest can confuse even the most seasoned investor. However, if you do not take the leverage of it, you will undermine your own ability to build wealth and secure financial life for retirement.
So what is the first step towards building wealth? Instead of selecting stocks, begin by deciding what percentage of stocks, bonds, and mutual funds you want to hold. This process is known as asset allocation.
What Is Asset Allocation?
Asset Allocation is a brilliant investment technique. It involves creating a portfolio that aims to balance risk by dividing assets into major categories like bonds, cash, real estate, stocks, and derivatives.
Each asset class has distinct levels of return and risk. Hence, each will behave differently over time. Where one asset category can increase in value, the other might not give that much return. Though some see this technique to get mediocre returns, it is the best protection plan for people like Simran, who don’t want to take much risk.
However, there is no single or set formula for asset allocation that guarantees good returns. And if there were, it would be difficult for us to explain it here.
We have outlined 3 essential points that you must consider when thinking about asset allocation:
- Risk against Return
Asset allocation is all about the risk-return tradeoff. It forms the basis of the entire technique. Everyone wants the highest possible return, but it is more than just choosing high-potential assets. Moreover, it isn`t always the best answer!
The financial crisis of 1929, 1981, 1987, and 2007 to 2009 are the best examples of how investing only in stocks with the highest potential returns is not the most prudent plan of action. Every year your returns are going to be beaten by another investor, pension plan, and mutual fund, etc.
The ability to weigh the relationship between risk and return is what makes an investor successful.
- Timing is Crucial
For every 10 years, you delay saving for your long-term future goals, you have to save three times as much every month to catch up. Starting early like Simran allows you to take advantage of compounding and the time value of money. It also gives you a buffer for making high-risk investments, namely stocks.
- Know your Goals!
Whether it is Simran or any one of us who is working, we all have goals! Goals that we want to pursue and fulfill. Be it owing to an apartment, a car, international vacation, or building a startup, you must think about an asset allocation plan with the right mix.
For long-term goals, you do not have to worry about fluctuations in the short market. However, for short-term goals, you may need to tilt your asset allocation to fixed-income investments that have less risk.
Once you determine the right mix of bonds, stocks, and other investments, it is time to implement it. Categorize your stocks or bonds according to their maturity- short, mid, or long term.
On the last note, there is no single solution for allocating assets. Just like Simran and her friends, individual investors require individual solutions. Asset allocation is not a one-time event. You can modify it according to your future goals and requirement. It is a life-long process of progression and fine-tuning.
To join our free Webinar on Asset Allocation,
Click here: www.facebook.com/badabusinesspvtltd.
Date & Time: Sunday 23rd May 2021 | 7 PM-8PM
To gain in-depth knowledge about the stock market, watch https://youtu.be/L_iJCNzDe-s.
