How much equity should I invest in for a long-term goal?

A young reader recently asked us, “How much equity should I invest in for a long term goal?”

This is a tricky question to answer! On one corner is a technical answer: Using reasonable return expectations for equity and debt (after tax!) and considering the inflation for my goal, I can arrive at an approximate overall portfolio return (after tax).

I adjust this allocation and return expectation considering the amount I can invest for my goal, ensuring the return expectations are still reasonable. The steps are explained here: Deciding on asset allocation for a financial goal.

Also, try the freefincal Asset Allocation Calculator on the SEBI investor website developed by M. Pattabiraman. These are among the nine freefincal calculators hosted there.

That is the technical answer to my asset allocation (or how much equity exposure I can have) and, more importantly, how much risk I need to take to achieve my long-term financial goal.

Once this is in place, we can address the emotional question: how much risk can I take (or emotionally handle)?

I would urge young readers (aged less than 35) to consider the following:

• Be emotional about your financial future. Tell yourself the key to achieving financial independence as soon as possible so you have options.
• Choose an equal mix of equity and fixed income (debt). It will work just fine. Take my word for it, or you can see the data: Will Benjamin Graham’s 50% Stocks and 50% Bonds strategy work for India?
• As you age, you will only grow confident about holding 50%-60% equity – ensure it does not turn to overconfidence. Never forget equity is like fire. Fire is indispensable, but getting too comfortable with it can burn us.

You cannot determine your risk-taking ability by reading or viewing content or taking a quiz to “determine your risk appetite”. Learning about risks takes time, so start with something and learn on the fly. However, create a plan before you start so that you have a path to start with. You can always course-correct down the line.

Only the initial asset allocation has 50-60% equity exposure. With time, the equity exposure should be systematically reduced well before the goal deadline to combat the sequence of returns risk (poor returns that can derail our plans) and achieve our financial goals regardless of market conditions. The freefincal robo advisor tool can help with an automated asset allocation schedule to reduce the sequence of returns risk.

Older investors who have not taken enough risk before should compensate by increasing their investments as much as possible and modifying their financial goal expectations. They should gradually increase equity allocation depending on their age and emotional tolerance. Using the suggestions of the robo tool, older investors can customise their asset allocation plans using this portfolio audit tool.