An overview of reasons why you may reconsider your asset allocation
Summary: Changes in life's goals, unexpected gains, and losses, change in your risk capacity, and tolerance could compel you to modify your mutual fund asset allocation.
'Never put all your eggs in one basket' is one of the golden maxims that investors abide by to create wealth. When it comes to mutual funds, this adage translates into a smart asset allocation investment strategy.
You, as an investor can re-assess your financial objectives, risk appetite, and investment horizon after a few years. Based on your findings, it becomes easier to form an asset allocation strategy. A strategy allows the investor to determine what proportion of their investment will be in which asset class- equity, bonds, cash market, real estate, or gold.
As a buy-and-hold investor, you will often adopt strategic asset allocation in your portfolio. With this strategy, you are assured of your original proportion of assets through periodic rebalancing.
However, there could be other reasons to modify mutual fund assets. The mere nature of life is such that unexpected things happen and we have to adjust based on those changes. Thankfully, you can modify your asset allocation with the help of research tools or calculators in your bank's app.
So, what are the possible reasons why you may need to or want to change your mutual fund asset allocations? Let's take a look:
- Your personal financial goals have changed
When you start investing for the first time, you have an inspiring vision for your future. Over time, this vision evolves. At the age of 20, your asset allocation may have included instruments with high-risk, so that you could buy your dream home when you were 40. At the age of 35, you may already own a home, but you realise the need for building a college education fund for your child or children. There may be times when you have a shorter time window to reach your new personal financial goal. That's when you need to modify your asset allocation. You need more low-risk investments as your children are fast approaching the time when they decide on colleges, and it may be unwise to be aggressive.
- Change in risk capacity
If you have limited money to invest, chances are your strategic asset allocation plan has most money invested in safer asset classes such as bonds. However, if your risk capacity increases due to income growth, your asset allocation may change. Let's say you find a better-paying government job. This means you have more expendable money plus job security. This increases your risk capacity, and you can invest more in more aggressive asset classes.
- Change in risk appetite
As a 25-year-old, you may be carefree and carry a Pollyanna-ish optimism about your investment returns. Your strategic asset allocation would probably put a lion tamer to shame. However, as you grow older, your appetite for risk may reduce. This will significantly change your strategic asset allocation to reflect more conservative, low-risk asset classes.
- Pennies from heaven!
Ah, this is when you unexpectedly find a ₹200 note in some old book, but only better. Here, we are talking about some significant windfall. Let's say you received ₹ 2,00, 000 more than expected on selling your old house. Assuming you don't need this extra money to meet everyday expenses, you can invest it. Instead of parking this surplus in a low-risk mutual fund asset class, you change your strategic asset allocation. How? By putting this money in an aggressive mutual fund rather than your usual low-risk one. Since you aren't counting on this money to run your house, you can afford to take some risks with it.
- The life stage you are at
As a retired 65-year-old, you may not want to worry about how your investments are doing. Instead, you may just want a regular income. Here, the strategic asset allocation may change to include more asset classes with low volatility and decent returns than before. Contrary to this, a young 21-year-old with a promising career and no financial obligations may want to take risks and create wealth in short or medium terms. They may take the high-risk, high-reward route, and their strategic asset allocation would look starkly different. However, investors of the same age may have different financial priorities as well.
- When certain asset classes continue to underperform
The nature of the market is such that most long-term investments pan out the way they should. However, every once in a while, they underperform. If a market correction is slow and doesn't meet your expectations, you may want to consider reinvesting in another asset class.
As you contemplate a change in your mutual fund asset allocation, take into account any taxes you may have to pay or transaction fee that you may incur.
If you think you need to change your asset allocation, log in to the digibank app. Our investment research and calculators will help you figure out how best to stay on track to reach your financial goals.
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