# Tip No. 3 – Asset Allocation. How to get your investing spot on.
It’s a New Year and a new dawn, maybe that is not exactly how the song line goes but it’s near enough for the purpose of this latest article in our series of New Year tips.
In our Book “The Wealth Secret – Create, Build and Protect your Future, The Penguin Way” (being released soon) we have a chapter covering the importance of ensuring your investments have the correct asset allocation applied to them.
This is a classic “easier said than done” situation. There are some elements to this which are really quite difficult for investors and we wish to cover a couple of these here.
The first is a perennial problem. How do you know which assets are the right ones to invest in? We would all know the perfect solution if we had the benefit of hindsight. Assuming that you want to invest to get good (high?) returns on your money then the quest has to be to find the best risk/reward assets at any given time.
But we don’t have the benefit of hindsight, nor do we have a crystal ball. So should we put our money in shares (and if so where, UK, US, Japan etc.?), bonds, property, gold, cash or something else? If we are going to mix up where we put our invested money what percentage goes where?
The answer to these questions dictates your returns, because different mixes will produce different outcomes (which are unknown in advance without the crystal ball).
This is where classic investing principles come into play, because you have to find the asset allocation mix which is best aligned to your risk profile and matches the most efficient risk/reward position, for that level of risk. This is easily achieved using methods which we employ to assess your risk position and current (perceived) assumptions about asset returns. This allows for the correct asset allocation to be employed.
This may sound obvious but in our experience, meeting regularly with investors, new to us, we find their asset allocation does not meet this position. They are often ‘misaligned’ which in simple terms means they are not maximising their risk/reward position.
The second problem is that things change. And we don’t always notice or properly see the change as it is happening. This refers to more than one ‘thing’. Clearly the global backdrop changes, growth prospects, economic performance, levels of interest rates, political aspects, all change over time. This means that the best asset allocation mix for any given investor will move over time.
The individual’s position may also change – income changes, health changes, retirement, divorce, inheritances, windfalls, all sorts of life changes may occur. Any of which could affect the risk position of the investor.
So there is a ying and yang element here; two change aspects interacting to continually shift the asset allocation position.
This means that not only is the initial asset allocation assessment crucial (and in our experience many people may be out of line on this) but the ongoing adjustment to this asset allocation, beyond the starting point, is equally as crucial.
We would not suggest that this means investors should start acting as traders, far from it. There is no need to “buy and sell” every week or start watching the screens to worry about daily fluctuations in asset prices. Conversely, though, it does mean having a regular review to ensure that the optimum asset allocation remains in line. There is a balance: don’t trade but keep watch.
Many investors it seems do not react to the changes and maintain ‘old’ asset allocation splits even when they fall out of line with current circumstances. This inertia or static aspect to their investing approach means they lose the extra returns that an active approach would otherwise get.
Too many people allow the logic and truth of “no-one knows what’s going to happen in the future” to persuade them that this is the same thing as “no-one knows what the optimum asset mix is at any given time”. They are not the same thing. Yes, any asset allocation mix has to work on assumptions around future growth for different asset classes, but these assumptions can be made with some basis of historic consistency. With these assumptions in place, the correct asset allocation can be made for any given situation.
There are no guarantees and no certainties here, but there are sound principles which will improve the prospects for any investor of getting better returns, than if they employ any other approach.
Our third tip for the New Year is:
REVIEW YOUR ASSET ALLOCATION – IS IT OPTIMISED?
We are here to help you answer this all-important question. All you need to do is get in touch!