There is a saying in English. "Don't put all your eggs in one basket"
It means don't put all your hard earned money - nest egg
in one basket
Because if something happens to that basket
We will end up loosing all the hard earned eggs
Instead, if we split the eggs across different basket
and place it in different locations
even if anything happens to one basket
eggs in other baskets will protect our portfolio
is the idea. So here egg refers to our hard earned money
and the basket refers to the asset type the money is invested in
So by investing in different asset types even if
something happens to one asset type because of economy downturn
the other asset types will protect our portfolio
So in this episode, we will see
all the asset types available in the market,
their risk and return potential in detail
There are 5 major categories in Asset Types.
Lets take a look at Cash first. If we have as cash
there is no direct risk to it.
But there are indirect risks associated with it. If we have
cash in hand, it will be tempting to spend on unnecessary things
But the biggest risk we have is, Inflation.
that is money is loosing its value
day by day from inflation. For example, if a product is Rs.10, 000 last year
and if average inflation rate is 8%
and lets say that the last year's inflation is 8%
then that product today costs Rs.10,800
We are buying the same product. But, the product we bought for Rs.10,000
now costs Rs.10,800. But we think
that the price has gone up. But in truth, money has lost
its value. This is called Inflation. So what can we do about it?
The asset type we invest it should beat at least the inflation rate.
Lets take a look at Fixed Income now.
Fixed Deposits, Bonds come under this category.
so what is Fixed Income? As a people,
if we lend money to an entity and collect interest for that
money, that money is called Fixed Income. If we lend
money to bank and collect interest, that is Fixed Deposit.
If we lend money to a corporate and collect interest that would be Bonds.
We all know about Fixed Deposits. Nothing new to cover there.
But Bonds is an elaborate topic. We will
cover it in detail in another video. At high level, there are different risks associated with different bond types.
High risk bonds pay high interest.
Low risky bonds pay low interest.
Depending on our risk profile
we can invest in high risk or low risk bonds.
So this fixed income category comes under Low to
medium risk.
Next, lets take a look at Commodities. Out of all commodities, the one we like
the most is Gold. All Indian ethnics will
definitely have gold in their portfolio. But if you ask if gold is a good investment,
I would say as "It depends". Lets take a look at Gold's price history.
This chart shows history of 1oz Gold in USD.
From 1980 till 2000,
gold has gone down from $600/oz to $260/oz
i.e. In 20 years, it has lost 50% of its value.
You will be like, "That is not True. I know the price of gold has
increased from 1980 to 2000".
It went up in Rupees. Not in US Dollars.
During that period, Indian Rupees went from Rs.8/USD to Rs.45/USD
i.e it has lost its value by 4.5 times
That means, to buy gold in international market, even if the gold price has reduced by 50%,
it cost 2.5 times more to buy gold in Rupees
It gives the impression that gold has appreciated in value
But in reality, Rupee has lost its value.
This proves again on why we should not be keeping
Rupees as cash. After 2000,
gold price has risen steadily till 2011
and reached $1825/oz. Then in 2015,
it went down to $1060/oz and then it started rising again
and is now trading at a price close to $1500/oz.
Historically, the annual returns on gold for every decade is varying drastically. In 70's
it gave 30.8% and from 2000 to 2010, it has given a return of 14.3%.
But in 80's it gave -2.4%, in 90's it gave -3.3% and in 2010 to 2020 - it gave only 2.8% annual return
Even if we take a look at historical average return,
depending on which year we calculate the average from
the average annual return is drastically different. if we take a look at return from 1970,
it is 7.7% and from 1980, it is
only 2%. From 1990, it is 4.41%.
From 2000, it is 8.67% and from 2010, it has given only only 3.35% return.
We can see from these numbers, its hard to predicts its future movement both
long term and short term.
Because there is no pattern in its movement.
If you ask me, I would recommend to have minimal % of gold in our portfolio
At the most, we can 10% of our portfolio as gold.
Anything more than that, for its medium to high risk, does not look like
a good investment for me. But one thing is for sure.
Its better to keep as gold rather than cash in Rupees.
Next, lets look at Real Estate.
India has started tracking Real Estate Index only recently.
So we don't have reliable historical data.
But we can estimate based on the price growth.
In last 30 to 40 years, Indian Real Estate has given 10 to 12%
average return. Even though Indian Real Estate price
has gone down a little bit in recent times, it has not gone down significantly in the past.
But that does not mean that this will not happen in the future. Because, even before 2008
No body thought that the real estate price would go down in USA.
But during Financial crisis, it went down more than 50%.
So we have to be prepared for situation like that.
So in that regard, Real Estate asset has medium level risk
Lets take a look at US home price
change in this Case Shiller Index
It has given an annual return of 3.7% since 1987.
The disadvantage in this Real Estate asset is that it lacks liquidity
i.e. it is difficult to sell it immediately and access the cash.
To get Real Estate exposure, we don't have to own a
land or a home. We can buy REITS
Real Estate Investment Trust funds.
But it has high risk as stocks. Also gives high returns. In US,
REITs have given a return of 10 to 12% on average.
Next, lets take a look at Stocks. Of all the assets, Stocks has the highest risk.
But it is also the one that has highest return. If you want to give a
growth power boost to your portfolio, then you definitely need exposure to stocks.
In general, we all have a fear when it comes to stock market.
Because all we see and read
in news is that stock market crashed
We see only negative aspect of it.
But no one explains the positive side
of how it has performed and grown in long term.
Indian stock market is a very volatile one
and also a high risky one. But it gives good return in long term.
So far on average, it has given 16 to 18% annual return
Even if its not going to be like this in the future, we can expect 13 to 15% return
in Indian stock market. Lets see how it has performed
historically in this chart. In short term,
its movement is very volatile. Because of Corona virus
Indian stock market has come down by 17% in last one month.
But it is always going up in long term. Compared to Indian stocks,
US Stocks are not that volatile. But the high risk is still there. On average
we can expect an annual return of 10 to 12%.
The thing I like about stocks is its reliability in returns.
Even though it is very volatile in short term, it has given good returns reliably
in long term. It does not mean that we should be getting stocks exposure by
buying individual stocks. We should be buying
index fund. We will cover that in detail in another episode.
Lets take a look at the summary of different asset types.
Cash - No need to keep any cash in hand other than the emergency fund.
Gold - Better to hold this than Indian Rupees. We can have
upto 10% in portfolio.
We can expect a return of 7-9% in Rupees with moderate risk
Real estate in India - 10 to 30 percent can be allocated. 10 to 12% return can be expected
with moderate risk. Real estate in USA - 10 to 30 percent can be allocated
3-4% return can be expected with moderate risk
REIT's - 5 to 10% can be allocated. 10 to 12% average return
can be expected. But with very high risk.
Indian bonds - 10 to 20 percent can be allocated. 8-9% return can be expected.
with moderate to high risk. US bonds - 10 to 20% can be allocated
5 to 6% average return can be expected with moderate to high risk
Indian stocks - Highly risky. But because of long term return reliability,
we can allocate 30 to 40%. 13 to 15% return can be expected. US stocks -
has same high risk. 30 to 40% can be allocated.
10 to 12% return can be expected. Based on this asset allocation, lets take a look at
sample Indian portfolio. Fixed Deposit - 10%, Gold - 10%
Real Estate - 30%, Bonds - 10-20%,
Stocks - 30-40%. This fits a middled aged person. But we can adjust the allocation
based on age and risk profile. Young people can have a bigger Stocks exposure
But as they age, they should decrease the stocks exposure and increase the
exposure on other conservative safer assets
This is a sample US Portfolio. I am not cinlduying gold and Fixed Deposit here.
Because it does not help much in US as investments.
Bond Index Fund - Your Age %. i.e, if you are 30 yrs, invest 30% in Bonds.
Stock index funds - (100 - your age)%.
i.e. a 30 yr old can allocate 70% to stocks. The reason we split the allocation based on
age is because, as we get older we should reduce the risky stock exposure and increase
the less volatile bonds exposure.
If you want REITs, you can take 5% each from stocks and bonds
and invest as 10% in REITs. That is all there for an "Asset Allocation".
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