“Asset allocation, where to park your money and how to divide it up, is the single most important skill of a successful investor” – said businessman, author and coach Tony Robbins. The most important factor that determines your allocation strategy is not only risk, return, etc., but actually your time horizon. The longer the runway available to you, the more is your ability to (1) take higher risks for higher returns, (2) invest in different asset classes, (3) live through many more cycles, and (4) generally have more flexibility with your goals and investing style.
The inverse is also true where a lesser time horizon implies more risk aversion and a more conservative approach to wealth building. Let us understand these with an example. Let’s assume you want to access your corpus at 65 years of age. This is what your approach can be based on the age bracket you are in.
In Your 20s
Most professionals are just getting their first salaries in their 20s. The typical impulse with your first few paychecks is to spend, spend, spend! And you know what? You should. I personally believe we spend too much time with our heads down studying hard, and then working hard; so much so that we forget to have fun.
Your 20s is the best time to get different life experiences and buy impractical things just because you want to. So, my advice is to do all of that.
Now the serious part: a rupee you save in your 20s will grow to approximately Rs45 in 40 years at about 10 per cent annually. This is a 45 times growth just based on time – your money will have worked very hard for you.
Therefore, strike a balance and try to save about 20 per cent of your salary. At this stage, you can be 80-90 per cent invested in higher-risk assets like equities. Within equities, allocate more to mid/ small cap mutual funds if your risk appetite allows. Further, you can consider other volatile asset classes like cryptocurrencies to a limited amount to hold for the very long term. The balance allocation can be to debt and Public Provident Fund (PPF). In insurance, be sure to have adequate health insurance and if needed, then life insurance (term plans are a good option).
Mistakes you should avoid:
Putting money mainly in fixed deposits (currently, these earn you a negative rate of real return)
Buying insurance policies with assured payouts. Do the math on the internal rate of return (IRR) of these policies and you will see that they almost never add up
Buying a house too early, which ties up a lot of capital that could have been invested to be compounding elsewhere.
In Your 30s
Many people start taking on more responsibilities in this decade – you may have a partner, you may be planning for kids, and/or your parents are getting older. Therefore, your time horizon is shrinking. Start adding more conservative asset classes for yourself. Planning for your kids can stay aggressive since they have a long timeframe. Fixed deposits to some extent, corporate bonds, sovereign gold bonds and real estate investment trusts (REITs) should find their way into your portfolio gradually. The mix of debt and gold can go up to 30-35 per cent. Buying a house is an emotional decision, and do not confuse it with asset allocation because real estate ends up being a very large proportion for most Indians.
In Your 40s And 50s
Usually, what happens is that you will make disproportionately more money later in your career when your time horizon shrinks. As your retirement is closer, you must also focus on what your passive income will look like in 10-20 years.
Therefore, debt, gold and products with limited downside can now be around 50 per cent of your asset allocation.
Since your corpus is also growing, you can start looking at higher ticket size investments that may not have been accessible earlier, like venture capital. You can take money out of your riskier asset portfolio to reallocate. Within mutual funds and exchange-traded funds (ETFs), your allocation should tend more towards large caps.
Once you are planning your retirement, focus shifts to capital preservation. Making sure the wealth you have created meticulously throughout your life now serves you well. The goal is to make sure your assets grow at least at the rate of inflation and provide income for your lifestyle.
Starting in your 60s, move 75-80 per cent allocation into more conservative products. Based on your sources of income, you could consider debt products with regular interest payouts, gold bonds (which are a natural hedge in any portfolio) and your equity portfolio should have more blue chips which are less volatile.
The most important way to think about money is that money itself is not the final destination but a vehicle that gets you to live a fulfilling life. Therefore, even as you plan your goals, remember to enjoy yourself and strike a balance between consumption and frugality.
This is general advice and your specific allocation should be based on your personal circumstances.
The author is co-founder of Upside AI, a SEBI registered PMS.