Putting all eggs in one basket might not be prudent, diversifying investments would expose one to balanced risk, ensure liquidity to a certain extent, and better the quality of returns from different asset classes, Basavaraj Tonagatti tells Gayathree Ganesan. Excerpts:
Identifying ones goals behind an investment and proper asset allocation might help get better returns, says Bengaluru-based Certified Financial Planner Basavaraj Tonagatti.
What is the importance of diversifying your funds into different assets?
Nearly 99 per cent of people — even investors — tend to put all their money into a single asset class, be it the typical fixed deposit or real estate, or even aggressive investment in the equity market. But most of them miss out on the logic that diversifying their funds would expose them to balanced risk, ensure liquidity to a certain extent and better the quality of returns from different asset classes. For example, when you put Rs 100 into a single investment basket, there is a 50 per cent probability of profit, but there is also an equal chance for loss of the fund invested. But if you invest the same Rs 100 in two or three baskets, the probability of incurring a loss is reduced.
How do we decide on asset allocation when it comes to portfolio diversification?
The first priority of an investor should be to identify the goal behind the investment, followed by estimating the time horizon of such an investment. Based on the time period of the goals, one should diversify their funds into different asset classes — debt funds or equity.
If the period of a particular investment is less than five years, it is not prudent to invest in equity. But if it is 5-10 years, which you call a medium-term goal, one can go for a 60-40 split on equity and debt. If it is more than 10 years, one should target an aggressive 70-80 per cent fund allocation to equity and the rest to debt funds.
How can one allocate assets when they adopt systematic investments?
When an investment’s time period is less than 10 years and suppose if they go in for a 60-40 split on equity and debt, the ratio should not be consistent throughout the entire time period. As the maturity of the investment nears, the asset allocation should be shifted to debt from equity. This ensures better liquidity that would help one achieve their investment goals, say to buy a car or a house.
There is a large extent of volatility, both in the debt and equity markets. Nobody can ascertain which type of bond market will perform better in the long run. The performance of the bond market is based on the interest rate movement. Equity funds also face the volatility of the market. Without sound planning, proper asset allocation, and shifting from debt to equity investments at the right time, the investor might end up with lacklustre returns or even a hampered principle.