Purushothaman S.S.
When making investment decisions, most individuals have two goals. One is to protect their capital and the other is to grow their capital. There are plenty of investment options available in the Indian markets that can cater to an investor’s requirement of capital protection and growth. Each investment option has a different level of risk and return potential. Compared to traditional investment options, equities are considered to be a great asset class for generating relatively high returns over the long-term. However, equities are also considered riskier than most other asset classes. So how can risk-averse investors take advantage of the growth potential of equities? The answer to this is in practicing asset allocation.
Asset allocation is an investment portfolio technique that aims to balance risk by dividing assets among major categories such as cash, bonds, stocks, real estate, and others. Each asset class has different levels of return and risk, so each will behave differently over time. It is an investment strategy that aims to balance risk and reward by apportioning a portfolio's assets according to an individual’s goals, risk tolerance, and investment horizon.
In mutual funds, asset allocation funds are basically mutual fund schemes that invest in a combination of equities and bonds. They offer investors an opportunity to diversify their investment portfolio by creating an exposure to stocks and bonds. Based on the investment objective of a mutual fund scheme, the assets are allocated by a fund manager who tracks the investments and makes changes in the asset allocation according to the scheme mandate. Asset allocation funds are ideal for conservative investors who have a low tolerance for risk. While they are similar to hybrid funds in terms of asset allocation but differ in terms of how they are managed.
The other benefit that asset allocation fund offers is that it helps to ride market volatility. Market volatility is a part and parcel of equity investing. However, the sharp correction followed by a sharp recovery seen in equities across global markets, over the past two months is unlike anything witnessed by the investors in the recent past. Investors with a long term investment objective and those who are investing through SIP however need not worry. By investing through SIP, an investor gets the opportunity to accumulate more units when markets are lower. In such situation, asset allocation discipline should be maintained at all time and do not let market volatility deter your investments.
Also, from an investment perspective, with the recent correction, equity valuations have turned reasonable with good margin of safety for equity investments over long term. Given the uncertainty regarding the spread of COVID-19 and its possible fallouts, volatility is expected to prevail in the near to medium term. In such situation asset allocation schemes is best poised to make the most of the opportunities available in equity and debt asset classes.
There are two types of asset allocation funds.
1. Dynamic asset allocation funds – these funds are actively managed where the fund manager adjusts the asset allocation based on market fluctuations. When markets turn expensive, fund managers reduce their exposure to equities and increase their exposure to debt and arbitrage. On the other hand, when market valuations improve, they increase their exposure to equities and reduce their debt exposure.
2. Static allocation funds - these funds allocate to different asset classes based on a pre-determined percentage. Some of the balanced funds can be considered as examples of static asset allocation funds.
One such dynamically managed asset allocation fund is ICICI Prudential Asset Allocator Fund. The fund has a Fund of Funds structure and is managed by veteran fund manager S. Naren. The scheme tries to capture the optimum allocation of Equity and debt based on the relative attractiveness of these asset classes. Being a fund of fund, the scheme allocates predominantly between equity and debt mutual fund schemes based on in-house valuation model. The fund has been a consistent performer and has been received wide acceptance among the investors. This fund can be a worthy consideration for any investor looking to invest into asset allocation funds.
Purushothaman S.S. is a consultant with Nila Investment & Services
