Asset Allocation is an integral part of the investment process and determines the efficiency of an investment portfolio.
Over the years, returns of major asset categories have moved independently under varying market conditions. Hence, investing in different asset categories such as equities, fixed-income, cash, bonds, real estate, commodities, etc., ensures a balance between the risks and returns.
Successful portfolio management entails investment diversification in the right combination of asset categories to meet financial goals while minimizing the risk.
Allocation of funds depends on three main factors- financial goals/target returns, risk tolerance, and investment time horizon.
Financial advisors adopt different strategies during asset allocation depending upon the investor’s situation and preferences to attain the desired returns.
6 Asset allocation strategies that can ensure successful portfolio management include:
1. Strategic Asset Allocation
This investing strategy helps align the investment portfolio to the risk tolerance. It helps determine the percentage of assets in the form of stocks, bonds, and cash.
This is a buy-and-hold strategy for long-term investments. It promotes investment diversification to minimize risks and maximize returns.
Strategic allocation is a hands-off approach where the set investment mix is rebalanced from time to time to counter any allocation divergence.
2. Constant-Weighting Asset Allocation
Compared to strategic asset allocation, a constant weighting approach helps continually rebalance the investment portfolio based on market variations.
This approach ensures the asset classes never deviate by more than 5% from the original investment mix.
3. Tactical Asset Allocation
Investors use this strategy to counter strategic allocation challenges and apply it to short-term investment decisions. It is a moderately active approach since it realigns to the original investment mix once the short-term profits are achieved.
This strategy scores over strategic allocation as it adds more flexibility in keeping up with the market dynamics, ensuring investors invest in higher returning assets.
4. Dynamic Asset Allocation
This is the most popular investment strategy since it allows constant adjustment of the asset mix with the market variations and economic situation. This approach enables the selling of assets that decline and purchasing of assets that increase.
As opposed to the constant weighting strategy, this approach relies on the portfolio manager’s judgment rather than the target investment mix.
5. Insured Asset Allocation
Insured asset allocation is the ideal approach for investors intending to avoid risk entirely.
This strategy involves setting a base asset value below which, if the portfolio drops, the investor realigns the investment strategy or adopts a different one to avoid the risk of incurring losses.
This active portfolio management approach relies on analytical research, financial forecasts, judgments, and expertise to determine which securities to buy, hold and sell to enhance the portfolio value effectively.
6. Integrated Asset Allocation
This approach offers the framework for analyzing the critical aspects of the asset allocation decision. It involves the consideration of both the economic expectations and risk factors in deciding the asset mix.
While all other strategies are based on expectations of future returns, this strategy focuses on the actual changes in the capital markets and the investor’s risk tolerance.
This is a broader asset allocation strategy in which the investor’s current net worth is converted through a risk tolerance function into the investor’s risk tolerance.
Asset allocation strategies vary from being fairly active to strictly passive. Investors select an asset allocation strategy or opt for a combination of strategies depending upon their financial goals, age, market return expectations, and risk tolerance.
To drive successful portfolio management, allocation strategies that consider all aspects of the investment process and align accordingly to ensure favorable outcomes are an essential prerequisite.
To get a better idea of the suitable asset allocation strategies for your investment portfolio, opting for asset management support from research organizations such as Research Optimus could help ensure good returns while minimizing losses.
Research Optimus provides customized market and financial research services that help discover new opportunities and achieve growth goals.