Successful formula for wealth creation

Why bother about other options when a known asset brings in all the goodies? So is the case with an equity investor who is willing to bet all his money on stocks irrespective of the risk associated with it. Is diversification a necessity or a balanced portfolio ensures better returns than a single product portfolio?

Is equity trading bad for your financial health?

The answer is yes to both. Putting money in a bigger basket of products acts as a good hedge as every product has its own cycle of good and bad performance. Since all products don't have similar trade cycles, the investment across products acts as a good hedge against risk.

More importantly, when wealth or corpus gets bigger, management or protection of wealth assumes greater importance. For instance, an investor who puts in Rs 10,000 in a stock is less penalised even if his stock prices plunges by 50% as his loss of profit is Rs 5,000. The same can get painful if the amount of investment is Rs 1 crore as it is difficult to digest a loss of Rs 50 lakh for any one.

Are MIPs of mutual funds a safe bet?

On the other hand, the losses could be minimised if the same were to be spread across different instruments such as property, equity, debt or gold. So how does one distribute risk across different products?

The strategy could be two-fold. One is to allocate funds according to different risk profiles and the other is to spread the risk according to tenure. For instance, young investors can put money in risky assets till the age of 50 and can shift to non-risky options closer to retirement. This option might rob you of the earning potential at a later stage of life but can ensure safety of corpus.

Remember the lessons learnt from the gloom

Also, this strategy could prove handy if the investor has sufficient corpus on his hand though definition of `sufficient' is questionable.

So, following the first option - that of allocating funds across different instruments - is an easy option and sensible too.

While allocation depends on the period of investment and individual's risk profile, some of the instruments are good for all times and for all investors. So, the core portfolio could be across instruments such as equity, debt, gold, property to start with.

There could be further allocation within each category but every investment has its upper and lower limits. For instance, gold need not be beyond 20% even if it proves to be an outperformer at regular intervals.

For instance, in the last one year, the yellow metal's price has been stupendous and has made many look at it as an investment option. However, that should not push investor to allocate 100% corpus in its favour as history has shown that gold too has its cycles.

What is best? SIP or lump sum

Similarly, property's stability need not be taken for granted, as it is one of the most illiquid assets on view. Since property is a money-spinner in the long term, those with tenure at their disposal can allocate between equity and property according to their comfort.

Interestingly, debt, despite its non-risk profile, is an option only for short term and for a certain category of investors. Hence, 100% allocation has its own disadvantages despite its assured or fixed return.

Srikala Bhashyam is the Managing Partner of RS Consultants. She runs an investment-consulting firm in Bangalore to provide consultancy in the areas of financial planning and media. In the last 15 years, she has worked with top publications in different locations. The primary focus of all her columns is to simplify the nuisances of Finance, which has attained a new look over the years. Besides being a columnist, Srikala has also been closely associated with some of the prestigious book projects.

The author can be reached at srikala.bhashyam@gmail.com

The views expressed in the article are the author's and not of Sify.com