Investment markets are characterized by various unpredictable risk factors. Regardless
of whether you are an aggressive or conservative type, you are likely to deal with
various investment risk. Therefore, an effective asset allocation is important to
achieve ones financial objectives.
To further improve your returns while minimizing the risk involved, you should go
beyond the typical asset classes and domestic boundaries. For illustration, apart
from holding some cash and bonds, you may want to invest in some international stocks
in other emerging economies while buying some domestic blue chips. A sample breakdown
of assets could be as follows:
Table 1: Sample Breakdown of Assets
A carefully-constructed and diversified asset allocation which invests across different
asset classes and markets is usually the more preferred method to grow ones portfolio
as they smooth out volatility.
While a diversified asset allocation cannot guarantee that you will never lose money,
it can reduce your portfolio overall risk - you offset losses in one asset class
with gains in another. Perfect market timing such as buying at low and sell at high
is hard to achieve for even a professional investor.
You can be all wrong in your market timing but if your money is allocated properly,
you are likely to do well over the long-term which should be the goal for every investor.
If you diversify your investment holdings across different markets, you are likely
to spread your risk more effectively. Had you invested fully in stocks in Thailand
for the past two years, your portfolio would be most badly damaged.
In October 1987, stocks plummeted 21.5%, while long term bonds rose 6.2%. Various
studies indicate that almost 92% of your portfolioís return depends on how you allocate
your money among various type of asset classes.
If you decide to venture into something relatively new, you will need some homework
to determine a suitable asset allocation. Different fund managers use different market
approaches to determine the ideal asset allocation for a diversified portfolio. Nevertheless,
the investment goal generally remains the same - to achieve the desired rate of return
over the specific time frame.
For instance, assume you have a large sum of cash and considering diversifying into
foreign securities. Investing in international markets is far more complex than just
staying in the domestic market.
After having considered various factors such as your age, investment time frame,
and risk tolerance, and forming your own investment objectives, you will have to
determine the desired asset allocation.
At this stage, you will need to identify the relevant fundamentals that drive stock
prices such as the expected growth rate of your selected stocks including their respective
sectors, the assessment of the current fair value of the stocks, inflation risk,
and so forth. You need to master the art of fundamental analysis.
To fully evaluate the prospects for the respective markets, you should not forget
the political risks too. You will have to keep in mind that the political scenarios
in other countries are vastly different from the local environment. Obviously, investing
in a war torn economy would give you much higher risk.