My Asset Allocation

I have discussed the 70:30 asset allocation in my previous 2 posts. However, I did not really follow the rule, not because it did not work for me, but for the simple reason that I wanted to learn market cycles and take risk while doing my investments. I would not suggest anyone play with investments like I did (unless you know what your are doing) and risk losing money. Instead follow the boring simple rule of 70:30 and it works. This is more of a case study of my investing style.

 

Disclaimer: The asset allocations discussed in this post worked for me. You should not blindly follow it or you risk losing all your money. I am not your financial adviser, so taking any financial decisions based on methods discussed here is risky and the liability is all yours.

 

When I started investing in 2011, I did not know about the 70:30 rule which I later figured out. At the time my goal was to maximize my returns as much as possible, taking some calculated risks. So I came up with my own algorithm which is a potpourri of Price-to-Earnings (PE), Market Cap, Gross Domestic Product (GDP), growth projections and market sentiments to help me guide in how my asset allocation should look like at any given time. And this is how my asset allocation looked like over the years following the advice of my algorithm.

 

 

Now you might be thinking, “What gives? Why are the numbers all over the place?”. Well the allocations have nothing to do with my age or me nearing my early retirement date. It was just because of what my algorithm told me. The development of the algorithm is as old as my investment.

 

[This paragraph is a bit technical. If you are not a software engineer, feel free to skip]. I wrote the algorithm initially in Java and later in Go and launched it on AppEngine. A daily cronjob gathers Nifty price, PE, GDP numbers and plots a graphs and gives a recommendation of what I should do, given the market conditions. Below are some screenshots of the web app.

 

 

Don’t bother too much about what the graphs are trying to convey, but do check out the recommendations. In the current market situation the first and last graphs are indicating that the market is neither high nor low, but the middle graphs indicates that the market is high and it is time to sell. I follow the recommendations and given what I know about market conditions (macro economics, news, any knee-jerk reaction situations) and take a call on what I should be doing. Given current market conditions, my asset allocation as of today is 27% in equity and 73% in fixed income. My allocations in the past have changed as shown below.

 

 

[Going forward I will only talk about second and third graphs above since the first graph is hard to read.] Why did the allocation change during those dates? Look back at the last 2 graphs above and notice how the blue line is above the yellow line after mid 2014? I was at 70% equity and 30% fixed income until that time in June 2014. Based on what my algorithm was suggesting at the time (which is to hold), I stopped investing completely in equity and only invested in fixed income. The reason is that I felt that the markets are going into over bought territory.

 

By mid 2017 the second graphs is indicating that the market is clearly over bought (notice how the blue line is above red line), however the third graph does not indicate any negatives. So by March 2017 my allocation is skewed to 50% equity and 50% fixed income and I was being careful with equity. I got my lucky break in January 2018 when both second and third graphs were ringing alarm bells. I had to get out of the market that is too high for my comfort, so I started selling equity and moving into fixed income. My ratio changed to 37% in equity and 63% in fixed income.

 

After January 2018, the markets cooled off a bit and I stopped my selling. Then it became expensive again around August 2018 and I sold even more equity and bough into fixed income, skewing my allocation further into 30% equity and 70% fixed income. I left the ratio at 30:70 split, but the recent fall in markets caused my latest split to be at 26:74. That is the story of why I did not follow the 70:30 rule. Basically I am trying to time the market, being greedy when others are fearful and fearful when others are greedy. I definitely would not recommend timing the market or using my strategy unless you understand market cycles.

 

And if they insist on trying to time their participation in equities, they should try to be fearful when others are greedy and greedy only when others are fearful 

Warren Buffet in 2004 Annual Shareholder Letter

 

One thing to note is that I would not drift too far in either direction. For example, if I believe the market is too hot, I would not be 0% equity and 100% debt. Similarly, if I believe the market is over sold, I would not go 100% equity and 0% debt because it is extremely difficult to find the top and bottom of a market cycle. My ratio still stays between 30:70 and 70:30. Whether my strategy gave better returns compared to 70:30 rule, only time will tell.

7 thoughts on “My Asset Allocation”

  1. Interesting – how do your returns from 2011-2018 compare to a stable 70/30 split?

    While you’re figuring out the asset allocation, the mutual fund managers also maintain cash position. So for eg: if your current split is: 30% equity and 70% debt and the fund manager keeps 25% cash, your effective equity % is only 22.5%. How do you account for that? Isn’t the job of the fund manager to figure out the market conditions, how much cash to deploy vs not etc? If you’re doing that, why pay for the fund manager? 🙂

  2. My returns are about 0.8% less than what I would have got if I followed the 70:30 split in Nifty. Could be even worse when compared to active MFs. So it would seem like a bad idea to follow my strategy, but we would only know after a full market cycle. Assuming there is a market crash, my strategy might come out better, otherwise I risk underperforming. Which is why no one should follow what I am doing ;).

    You raise a great point about cash positions in MFs. My numbers do not take that into account (although I could, for example fundsindia.com has protfolio X-ray and unovest has portfolio analysis section which account for MF’s allocation). The reason is that I don’t consider the cash/debt in MFs to be mine. It is fund manager’s money and he/she could move the cash to equity anytime.

    It is not the job of fund manager to deploy based on market conditions. Most MF investment objectives are not asset allocation (some do, I will come to that later). To be considered an equity MF they cannot have an exposure of less that 65% in equities. So they can never do the 30:70 split. While some fund managers almost always have 100% exposure in equities irrespective of market conditions (see Prashanth Jain of HDFC top 100 https://www.valueresearchonline.com/funds/portfoliovr.asp?schemecode=104). PPFAS instead has a lot of arbitrage to avoid equities. But arbitrage gives low returns. There are stocks that grow even during recession (https://seekingalpha.com/article/4077422-industries-grew-08-recession-surprisingly-well-now) and the job of a fund manager is to find such stocks. Basically they need to find stocks that might go up irrespective of market conditions.

    Now coming back to the point about asset allocation, if you want a fund manager to do the market timing thing like I did, then you are thinking about dynamic asset allocation funds (https://www.moneycontrol.com/news/business/mutual-funds/why-you-should-use-dynamic-asset-allocation-funds-to-ride-out-volatility-2545695.html). If you want to be hands off and want to leave the asset allocation to a fund manager then you should probably go with one of them. And then you don’t even need to bother about the 70:30 rule.

  3. Thanks for the detailed response and the G+ login functionality :). Will I get a email notification when you respond on the thread? So far I haven’t been getting even if I provide an email address.

    Good point about Equity MFs not being able to have less than 65% exposure to equities. As you said, dynamic asset allocation funds / balanced advantage funds allow for fund managers to handle the asset allocation (https://www.jagoinvestor.com/2018/09/balanced-advantage-mutual-funds.html, https://economictimes.indiatimes.com/wealth/invest/balanced-advantage-versus-balanced-mutual-funds-which-is-better/articleshow/65174413.cms). But perhaps investors shouldn’t blindly trust fund managers on this as this is risky.

    Suggestions for future topics (you may already have plans for these):
    – How to select equity / debt mutual funds?
    – How much insurance do I need (life / health)?
    – How to select health insurance? What parameters should be considered?
    – How much international exposure do I need? (Note: India is only 7.45% of world GDP) How to get this exposure?

    1. I hope you will get email notification :). This comment should confirm.

      Thanks for the topics ;). Will add them to my back log.

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