These are the few questions we ask to our advisors.
Let me try to explain this. Our idea is to create portfolio with two basic objectives. First to create wealth or in layman terms a good return and second objective is to reduce risk of negative or low returns.
Financial basics says, if you chase higher return, there is always higher amount of risk associated with it, we measure these risk for equity assets in terms standard deviation.
Every asset class has there own cycle of performance, meaning different asset classes have different cycle of good and poor performance.
When we add these 2 fundamentals in our consideration, then logical way to create portfolio of assets in such a way that at any point of time one or more asset class should deliver good return while may be one or more assets might have delivered bad returns. By doing this we assure lesser volatility in our portfolio.
Now question is how we know, is my portfolio have properly diverse asset class or not?
Actually it is simple, we have create portfolio of low correlated assets. Correlation is mathematical number ranging from -1 to +1 which explains relationship between two asset class. Where +1 indicate the two assets are of similar kind and having exactly similar cycle of performance and -1 correlation explains they are of exactly opposite cycle of returns.
In practical investment world, we do not find any two asset of perfect +1 or -1 correlations. All assets have correlation between these two numbers. Our idea of creating portfolio is to create mix of low correlated asset classes.
If we look into correlation of share prices of stock, returns of index funds and of equity mutual fund, they will be closer to +1 correlation so they are not diversified asset class.
While in other hand Equity assets (equity mutual fund, shares, index funds, etc) and Fixed Income assets (like fixed income mutual funds, corporate bonds, term deposits etc) is of low correlated and ideal mix to create portfolio.
Ideally, we should hold mix of Equity, Fixed Income and Gold in our portfolio. We can diversify further by adding International equity funds in portfolio.
Percentages of these mix should be different for different age groups and their financial requirements. If investor is of 30s or 40s of age group should have higher equity (may be 50 to 70%) and can have 20 to 40% Fixed income asset and approximately 10% gold). Where investors of 50s age group and he is in earning phase can reduce equity to 30 or 40%. In the retirement age, there should be negligible equity exposure and investment should be kept in low volatility assets.
These are all indicative examples, they may or may not fit to your portfolio. Please take help of advisor to find your optimal mix.
