Asset allocation - new perspective

?As a new financial year begins, it’s time to go through last year’s numbers and draw insights. Numbers don’t lie and they debunk myths.

They precisely tell us what happened in the time that has gone by and guide us for future decision making with a warning that not necessarily these will repeat themselves in the future,

but there can be a pattern to be looked into. All equity oriented MF schemes like their fixed income counterparts have a benchmark for comparison. What we did was gather all returns data

for all equity, indices for one month, three months, six months, YTD, one year, two-year, three year, five years, and 10 years. We also gathered industry average returns data for same periods of different market Cap categories. What we figured out is something everyone (except most investors ) knew but doesn’t often get reflected in action while advising clients or investing.

let’s take a deep dive into these numbers.

?1.Nifty 50 TRI, the most widely used benchmark, especially for large cap funds, generated the lowest returns amongst all other indices in all time horizons from three months to 10 years, except one month horizon! This is the index what we normally refer to as “market return”. Most funds, fund managers, advisers, and investors invest with a target of matching or beating this benchmark!

?2.Interestingly, another benchmark Nifty 100 equal weight TRI has given maximum returns amongst all other indices in the periods one month, three months, six months, and YTD. For the remaining periods from one year 10 years, they are neither the lowest nor the highest in the category. Rather, they are significantly higher than the lowest in that timeframe.

?3. what’s noteworthy is that in the one year to 10-year timeframe it’s always the small or the midcap index who walk away with the crown. In one year, its Nifty small cap hundred TRI topping the list, in two years, it is Nifty mid cap hundred TRI, in three years. It’s Nifty small cap 250 TRI, in five and 10 year Nifty midcap 150 TRI !

?4.If we were to look at nifty hundred and BSE hundred, the older brother has underperformed its younger sibling in the short term that is one month to one year period but has outperformed in two, three, five and 10 year period!

?5.As an industry, we have always been biased in favor of large Cap funds while doing asset allocation , but the data shows that small cap and Midcap funds(respective categories, industry average) has hugely outperformed in all time frames from one year and above. Despite this, these categories always get lesser allocation relative to large cap in most portfolio,

more so in case of new investors. So, most of the returns remain as data and not as returns in the Investor portfolio!

?It is therefore up to us, the advisers, and the investors to introspect and decide on whether to tinker with existing asset allocation models/practices and mindset or not !

?Happy Investing !

? FOOT NOTE

?We all know large caps are more liquid and relatively less volatile amongst all. ?Large caps are large caps because of at least 3 factors besides many others;1) higher number of shares issued/ large number of stocks, 2) higher market price per stock relatively 3) large number of transactions happening regularly & therefore most liquid in these categories. So there’s a sense of relative safety for investors to grow their investment, ease of buy/sell and exposed to lower volatility (less heart burn). This prompts, right from fund managers to advisors to investors; to have a bias towards higher allocation for Large Caps.

?However, the study shows (10 year reference) that if investment is made for a longer horizon ideally for more than 5 years ( though in our study , even for more than 1 year) mid and small caps have given significantly higher returns than large caps. The risks associated with investing in mid and small caps get mitigated once the investment period is longer & is suitably rewarded with significant alpha over Large caps in the same time frame (empirical evidence shows that).

?Therefore, while suggesting asset allocation, if longer time horizon for the investment is certain/ ensured, it makes sense to go for higher allocation towards small and mid-cap stocks to generate higher return from the portfolio.

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RISK in equity investment & risk in Debt investment have an inverse relationship with tenor of investment.

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