What is asset allocation?
Asset Allocation is the distribution of wealth in various classes of assets such as debt, equities, mutual funds, real estate, etc. for the achievement of long-term financial goals and objectives and depends on risk appetite and return expectations. individual.
Explanation
Activities can be grouped into several classes. The weighting of each asset class is determined by the expected return on each class as well as the client's risk objective. This is the most important step in portfolio management. This is done at the planning stage of portfolio management. Every customer has an appetite for particular risks. The only responsibility of the Portfolio Manager is always to properly judge the appetite for customer risk.
Asset allocation process
The asset allocation process is as follows –
Asset allocation begins with the analysis of the client’s risk appetite. A client can say that he will be able to take the maximum risk, but the portfolio manager will have to analyze well and decide whether only his willingness to take risk is high or also the ability to take risk. After analyzing the circumstances, let’s say the portfolio manager has decided that the risk should be 12% and that he needs a return of 15% per year to achieve his objective.
Now the portfolio manager will need to know the capital market expectations for each asset class. The CME is the process of determining the expected return of each asset class, the risk of each asset class as well as the correlation between each asset class
After calculating the CME, the portfolio manager should use software to plot the weightings of different asset classes that will yield the maximum return given different points of risk. This drawn line is the effective boundary.
Now the portfolio manager will have to plot the indifference curves of the client.These indifference curves were decided given the risk and performance of customers.
Significance
This is the first step in the portfolio management process; without an asset class decision, it will not be possible for portfolio managers to decide where to invest and for how long.
Asset allocation is done taking into account the risk appetite of the client which is Sigma. It therefore helps a client to invest his money taking into account the risk he will be able to bear.
Each asset class has unique characteristics and the correlation between asset classes is low, so investing money in different asset classes helps diversify your portfolio.
Investing in different asset classes mitigates unsystematic risk and there is only systematic risk.
Asset Allocation Matters
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Benefits
It helps to obtain the diversification benefit in a portfolio.
Knowing the expected return and Standard Deviation of an asset class helps to properly judge the exact amount of wealth that should be invested to reach the desired goal.
Conclusion
The Diversified Portfolio is the best portfolio for investments. Investors can gain exposure to the blended fund portfolio, where value stocks and growth stocks are combined for maximum returns. Investors should focus on value investing, which involves buying a company at a price below its intrinsic value and reselling it when the price reaches its value.
