Asset allocation tables can be misleading

I get very confused when I hear financial advisors and planners come out with precise numbers on something called “Asset Allocation”. They have pat responses. They will say, invest in to equities based on a simple formula of 100 minus age. Which means that if you are 40 years old, have 60 per cent of your money in equities and if you are 60, have forty per cent in equities. Some do a complex excel sheet number calculation and have some ‘magic’ numbers.

There are two factors to consider before we can debate the issue: What is my existing financial comfort Is the precise amount of wealth I have or ought to have a big bother

Each of us are wired differently. Some people are excel sheet driven. They calculate annualised returns to four decimal places. These people do not get any peace in life, obsessed with money. However much they own, they will remain poor. That is my view. Most of us, want to be reasonably comfortable. Excel sheets, especially when it comes to future wealth, are horribly misleading. A range of assumptions and conditions go into it. You are better off knowing the approximate direction or trend rather than getting it precisely wrong.

One chap was very amusing. He had a precise ‘allocation’ number for distributing wealth between ‘equities’, ‘gold’, and ‘real estate’. If you are rich enough to have all three, do the percentages matter

No wealth advisor talked about the risk in the solutions they offer. If the prospective customer is explained the products in detail, it is a good job. Often I see sales guys gunning for a 40 slide pitch in 30 minutes. This gives no time to the either side to take a call.

To me, up to a point, you count money. At some stage, you just invest wisely. Not bothered about percentages. You build your wealth based on your risk appetite or understanding of financial products. If you clearly study every instrument and stick to those where you understand the downside completely, you are on your way to success. I am not against personal finance advisors, but I think that when an individual spends time on investing his money, he will do a better job. Since he has no one to blame or fall back on, he will do a far better job.

Typically, the early years are when we tend to let our money remain idle or not put to better use. We tend to stick to products like bank fixed deposits, PPF or mutual fund SIPs. I am all for equities when you are young. The power of compounding is something that every one should understand before you start earning. If you do that, you will save most when young. A five-year delay in starting your investment plan would mean that your final corpus is only 50 per cent of what it could have been.

Compound returns are approximations and not exact forecasts. So long as we are in agreement that the best returns would come from equities, we are on course. In equities, the point to point returns will keep moving in a huge range, since the two points can be in a bull market or a bear market.

Different things are at work. However, if you take your journey through your investment years, you will certainly see points where your compound returns are in excess of 50 per cent, in the equities class.

When this happens closer to your retirement (say five to ten years before you stop earning), I would use the timing to cut some equity exposure and put it in to liquid funds, thus protecting some savings. A caveat: I would do this only if I feel that I will not have any other resource to keep me going once my earnings cease.

Asset allocation is a function of your financial circumstances and outlook. If you are well covered then the question boils down to what you are comfortable with. If you are not well placed, then obviously it is a question of constantly trying to increase your savings.

The key issue we all face is that there is no proven formula that will tell you how much is ‘enough’ accumulation at the point in time where your earnings cease. This makes it important to keep your assets going as long as they can and then liquidating them based on your circumstances.

Mathematical models can only tell you a ball park number. The way to avoid guesses is to start savings as early as possible and as much as possible in equities.

The writer is an independent analyst and can be contacted at balakrishnanr@gmail.com