The COVID-19 second wave has taken the markets by storm. The Indian benchmark indices have shown volatility in the recent past due to the adverse developments in the country. The surging number of daily cases reported and lockdown restrictions imposed in business centres have caused turbulence in the stock markets.
The uncertainty of whether we are past the second wave’s peak and the possibility of seeing the third and fourth waves have weakened the investor sentiment. This has called for investors to take caution by diversifying their portfolio and invest in securities across asset classes.
A portfolio is said to be well-diversified if it includes securities that help you balance your risk-reward ratio, depending on your financial goals, risk tolerance, and investment horizon. To achieve this, you have to invest in the right mix of equities, fixed-income securities across debt and money markets, government saving schemes, and gold.
Financial advisors recommend individuals have some money in a savings account to handle emergencies and avoid breaking their investment. With the latest developments in the markets, it is high time that investors get their asset allocation right.
Why should you invest in different asset classes?
i) To minimise the risk of concentration
By adding a wide range of securities to your portfolio, you will reduce the risk of concentration. For instance, if you invest predominantly in stocks of a particular sector, you run a high chance of experiencing significant losses when that sector underperforms.
The losses could be minimised by investing in stocks of companies operating in different sectors. In a well-diversified portfolio, if one sector underperforms, the other sectors may help you cover losses. This benefit will not be available in a concentrated portfolio. Therefore, diversification of equity portfolio is also essential.
ii) To alleviate the need to time markets
Another significant benefit of investing in different asset classes is that you don’t have to time the markets. For instance, an investor with a well-balanced portfolio consisting of securities of correlational asset classes expects his investments to continue to perform well across market cycles.
Gold and equities are an example of correlational asset classes. When the equity markets are down, the gold price shoots up as the investors prefer to invest in safer havens to protect their capital. Likewise, when gold prices are down, equity markets are expected to be bullish. By having correlational asset classes in your portfolio, you will alleviate the need for timing the markets.
iii) To stabilise your portfolio
You must bring some stability to your portfolio. You could do this by investing in fixed-income investments such as government saving schemes and debt instruments such as bonds and debt funds. These investments, mainly saving schemes, provide you fixed returns irrespective of the market developments.
Therefore, your portfolio will be stable to an extent. By investing predominantly in stocks, you will assume a high risk of concentration, which could be minimised with some fixed-income securities. Also, investing in these options will help you get regular returns in the form of interest.
It is crucial to invest in different asset classes. It will help you diversify your portfolio and reduce the overall risk. You will also strike a balance between risk and returns upon constructing a well-diversified portfolio.
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Engineer by qualification, financial writer by choice. I am always open to learning new things.