Table of Contents:
- Introduction
- Stocks vs. Diversification: Unveiling the Best Asset Allocation
- Case Studies: How Asset Allocation Outperforms a 100% Equity Portfolio
- All-Equity Investing: Potential and Pitfalls
- Who Should Consider a 100% Equity Portfolio? (Risk Tolerance & Time Horizon)
- Conclusion
Introduction
Is it realistic to have 100% of your portfolio in stocks?
Should you invest in 100% equities?
Is 100% stock portfolio too aggressive?
In the world of investment, where each choice can lead to either gains or losses, putting all our money into equity is quite daring. Instead of spreading their investments across different types of assets, like stocks, bonds, and cash, some people choose to go all-in on stocks.
They believe this strategy offers the best chance for big growth over time, thanks to the historically high returns of stocks.
After the tough times of the COVID-19 pandemic, the stock market has mostly been going up without going down much. Because of this, it makes sense that some people might think about putting all their money into stocks.
In this article, we’re going to look at how the stock market has done over the years to help decide if this is a good idea.
Let’s get started.
Stocks vs. Diversification: Unveiling the Best Asset Allocation
If you put across this question to most investors, then the most common answer is equity.
Why so? That’s cause equity has given a run-up by more than 200% from the COVID lows in March 2020. So, it is easily the best asset to own, right?
The answer is a firm NO.
If you refer to our previous article on the number of mutual funds that one may require, we would have talked about the asset allocation quilt which shows the returns that different asset classes would have generated over the past few years, and we can see that no asset always wins.
If we see the rolling returns over 10 years from 2010 until 2021 there have been phases 2013-2014 and 2016-2018 where gold has given us superior returns when compared to equity. So, it would be a wise decision not to put all our eggs in the same basket.
Case Studies: How Asset Allocation Outperforms a 100% Equity Portfolio
In this discussion, we’ll compare different portfolios to illustrate why asset allocation is vital, even for long-term investors seeking high returns.
1. 100% Equity Portfolio: High Returns, High Risk
To illustrate the performance of a 100% equity portfolio in the Indian context between 2008 and 2023, let’s consider an example with a systematic investment plan (SIP) of Rs 20,000 per month into the Nifty50 index.
We’ll calculate the portfolio value at the end of each year and highlight any significant market movements.
Cutting the long story short, we would end up with a huge corpus of around Rs. 97 lakh. Staggering returns right?
Yes, It is.
Smooth Sailing isn’t it?
Well, as our Thala Dhoni said in IPL 2020, It’s DEFINITELY NOT!
During this tenure of 15 incredible years, we will now see what were the major macroeconomic issues that happened and how the markets reacted.
Year | Macroeconomic Factor | Impact |
2008 | Global Financial Crisis | Severe impact |
2009 | Recovery from the Global Financial Crisis | Significant impact |
2010 | Introduction of Goods and Services Tax (GST) | Moderate impact |
2011 | Inflation spikes due to rising oil prices | Moderate impact |
2012 | Economic slowdown | Mild impact |
2013 | High Inflation Levels | Mild impact |
2014 | Change in government with new economic policies | Significant impact |
2015 | Economic reforms and initiatives | Moderate impact |
2016 | Demonetization | Severe impact |
2017 | Revision of Goods and Services Tax (GST) | Significant impact |
2018 | Liquidity crisis in non-banking financial companies | Significant impact |
2019 | Corporate tax rate cuts | Moderate impact |
2020 | COVID-19 pandemic | Severe impact |
2021 | Economic recovery post-COVID-19 | Significant impact |
2022 | Russia Ukraine War | Moderate impact |
2023 | Inflationary pressures due to supply chain disruptions | Moderate impact |
While it may sound simple, to endure such significant losses and witness our portfolio dropping by 30-40% at times, in reality, it’s quite challenging to remain steadfast through such turbulent times.
So what do we learn from this?
Well, the message is clear for us to see.
If we had put all the money into equity, many of us would struggle not to sell when the market drops or take profits when it rises sharply, testing our patience levels to the core.
This journey of 15 years what we saw above could have been more smoother had we chosen to do 3 different asset allocations, which we will see in the next section.
2. 70/30 Portfolio: A Balanced Approach for Long-Term Investors
Let’s initiate a comprehensive analysis by going through the performance of a structured 70/30 portfolio.
The equity component of our analysis will be benchmarked against the Nifty 50 Total Return Index (Nifty 50 TRI), representing a diversified basket of top Indian stocks.
On the debt side, we’ll utilize the ISEC Sovereign Bond Index, embodying a selection of sovereign bonds that underscore stability and income generation.
The case study:
Our investment horizon spans the same robust 15-year period, commencing from April 2008 and concluding in April 2023, mirroring a strategic long-term perspective. Within this timeframe, we’ll simulate a SIP with the same monthly outlay of ₹20,000.
Why a 70-30 portfolio?
The 70/30 portfolio is designed to maintain a 70% equity and 30% debt allocation and undergoes an annual rebalancing ritual every April, the beginning of the financial year.
This strategic rebalancing mechanism ensures that the portfolio’s asset mix remains in harmony with predefined allocation targets, mitigating drift and preserving the intended risk-return profile.
What were the outcomes?
After going through a careful analysis, the final value comes to be ₹93 lakhs compared to the 100% equity portfolio’s ₹97 lakhs.
But here is something we are not considering— the “drawdown.” -the most important factor that would have made us panic
What is a “drawdown?” A drawdown is a fall in a portfolio’s value from its previous numbers. The higher the drawdown value, the higher the fall.
So, what was the drawdown value of the all-equity fund to that of the 70-30 asset allocation? The 70-30 asset allocation is a clear winner as the all-equity portfolio succumbed 33.16% in 2020 for instance whereas the 70/30 portfolio showed commendable resilience, giving a comparatively moderate drawdown of 21.77%.
On average over the 15 years, the 100% equity portfolio experienced a drawdown of about 11% and the 70/30 portfolio fell by 6%.
This recurring pattern of subdued drawdowns highlights the efficacy of asset allocation in “cushioning” portfolio volatility and “insulating” against adverse market fluctuations.
The Findings:
Now, it is clear that by affording reduced volatility and fortifying downside protection, asset allocation serves as a strategic shield, navigating investors through turbulent market phases while preserving long-term wealth accumulation objectives.
3. 80/20 Portfolio: Balancing Risk and Return for Growth
This example is very similar to the previous section, but the 80/20 portfolio is characterized by a more aggressive asset allocation with an 80% equity and 20% debt composition.
What was the outcome?
Despite registering a marginally lower final value of ₹94 lakhs compared to the pure equity portfolio’s ₹97 lakhs, the 80/20 portfolio provided a striking 94.5 lakhs!
Which one provided better risk protection?
Of course it is the 80-20 portfolio.
During the April 2020 market upheaval, the 80/20 portfolio exhibited a commendable ability to fight losses, mitigating downward spirals by a noteworthy ₹5 lakhs.
This risk management highlights the portfolio’s ability to navigate volatility while preserving a robust risk-adjusted return profile.
The average drawdown was also at 8% over the 15 years. Though this is expected to be on the higher side than the 70/30 asset allocation, it is considerably smaller than the 11% of the 100% equity portfolio.
So, the 80-20 portfolio is a clear winner— provides a handsome final value and cushions all types of potential risks.
4. 60/40 Portfolio: Prioritizing Stability with Moderate Growth
This case is similar to the previous example, but we have used the ratio 60-40 of asset allocation, a more conservative and balanced portfolio.
What were the outcomes?
Despite yielding a slightly lower final corpus, falling ₹7 lakhs short of the pure equity portfolio’s culmination, the 60/40 portfolio’s resilience shines through during adverse market conditions.
During the market downturn in April 2020, the 60/40 portfolio showed better protection against losses compared to the pure equity portfolio. It managed to limit losses by an impressive Rs 10 lakhs. The drawdowns were also the lowest of the category at 5%.
What are the findings here?
We’ve outlined three asset allocation strategies to illustrate how your investment journey becomes more stable as you age. However, the choice ultimately hinges on your risk tolerance, investing approach, and goal timelines.
For the right investor, transitioning from an aggressive to a balanced portfolio over time is advisable. This shift aligns with your evolving financial needs and ensures a smoother ride toward your goals.
All-Equity Investing: Potential and Pitfalls
Investing all your money in an equity portfolio can be both lucrative and risky. Equity investments primarily involve buying shares of publicly traded companies, offering the potential for high returns over the long term but also subjecting investors to significant market volatility.
One key advantage of an all-equity portfolio is the potential for substantial growth. Historically, equities have outperformed other asset classes like bonds and cash over extended periods.
By investing in a diverse range of companies across different sectors, investors can tap into the growth potential of various industries and capitalize on economic expansions.
However, this growth potential comes with heightened risk.
Equity markets are inherently volatile and prone to fluctuations driven by economic factors, geopolitical events, and company-specific developments. During market downturns or periods of economic uncertainty, equity prices can plummet, causing substantial losses for investors.
Moreover, an all-equity portfolio lacks diversification, increasing vulnerability to market risks. Without exposure to other asset classes like gold, bonds, or real estate, investors face heightened volatility and potential losses during market downturns.
Diversification is crucial for managing risk and preserving capital, as different asset classes often exhibit low or negative correlations, providing a hedge against adverse market conditions.
Additionally, an all-equity portfolio may not be suitable for all investors, particularly those with a low-risk tolerance or short investment horizon. While equities offer the potential for high returns over the long term, they also entail greater short-term volatility and the possibility of significant losses.
Who Should Consider a 100% Equity Portfolio? (Risk Tolerance & Time Horizon)
Though we do not recommend a 100% equity portfolio, there are always some who want to try different styles and go the extra mile, then this section is precisely for them.
Long-Term Horizon: Investors with a long-term investment horizon, typically 15 years or more, may consider a 100% equity portfolio. Over extended periods, equities historically have demonstrated strong growth potential, making them suitable for investors with ample time to ride out market fluctuations.
Very High-Risk Tolerance and Patience: Investing solely in equities involves significant volatility and the potential for substantial losses, particularly during market downturns. Individuals with a high-risk tolerance and the ability to withstand short-term fluctuations in their investment portfolio may be better suited for a 100% equity allocation.
Diversification Outside Equities: Investors who maintain diversified assets outside of their equity portfolio may be more inclined to invest 100% of their equity allocation in stocks.
Diversification across different asset classes, such as bonds, real estate, and cash equivalents, can help mitigate overall portfolio risk despite a concentrated equity allocation.
Active Monitoring and Rebalancing: Those who actively monitor their investments and are willing to rebalance their portfolio periodically may be better equipped to manage the risks associated with a 100% equity allocation
CONCLUSION
Investing goes beyond simply making money; it’s about achieving stability and balance in life, including prioritizing family and other important areas. Although a 100% equity investment can boost potential returns, the commitment and time involved might surpass your anticipated efforts.
Rather than concentrating solely on maximizing profits, it’s vital to consider other meaningful aspects of life.
Therefore, it’s advisable to maintain a well-diversified portfolio tailored to factors like our age, risk tolerance, and investment timeframe. Opting for a balanced mix of investments is wiser than going all-in on stocks.
This approach allows for better risk management and helps safeguard against potential market downturns or unexpected events. By spreading our investments across different asset classes such as stocks, bonds, and real estate, we can achieve a more resilient portfolio that can weather various market conditions.
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