If the markets move up over a few weeks, investors are worried that they will crash and wonder if they should stop fresh investments. If the market moves nowhere, it frustrates investors, who start looking for new pastures. If the markets tumble, they begin to panic. Can we build an investment strategy that is independent of market conditions?
Yes, we certainly can, and the benefits are apparent. We invest systematically and manage risk in the portfolio, no matter the market condition. There is no need to follow market news or market valuations. There is no need to take media “experts” seriously and worry about what to do. Once set up, the systematic management can be run on auto-pilot with no more than 30 minutes of portfolio review once a year!
- Be clear about when you need the money. This may seem trivial, but it is the most crucial step in the investment process. It decides how much risk we can take and, therefore, the asset allocation.
- Have reasonable return expectations. For example, for long term goals, one should not expect more than 9-10% from equity after tax. Even today, getting 7% after-tax from fixed-income instruments is difficult. So after several years, this will be no more than 5-6%.
- Decide the initial asset allocation. For a goal over ten years away, 50-60% of equity and 50-40%% of fixed income is just about perfect. See: Will Benjamin Graham’s 50% Stocks 50% Bonds strategy work for India? Any higher equity, the risk will be too high. See the asset allocation risk matrix here: I have just started investing in MFs. How much loss should I be prepared to face?
- At this stage, one usually starts systematic investing. However, there is a catch – the critical step is missing. Market returns are unknown and uncertain. We need a variable asset allocation plan to ensure we achieve our target corpus, no matter how equity markets behave. How will we reduce the equity exposure so that the actual corpus does not deviate too much from the target corpus? The target corpus and the amount to be invested must be calculated using this asset allocation plan. This is automatically accomplished with our robo-advisor tool.
- Now, systematic investing can start. The other side of the coin is that systematic risk management is already planned out in the above step. We only need to review the portfolio once a year, check our actual asset allocation and rebalance it if necessary to align with the expected values per the variable asset allocation plan. The use of simple products like index funds will make the portfolio review even simpler.
That is it! This simple strategy will help you achieve your financial goals independent of market conditions. We have extensively backtested different variable asset allocation strategies, and the results are available in our goal-based portfolio management course.