Since March 2020, the stock market has been on a secular bull run. Some investors are concerned about a possible correction and are unsure whether to take a partial profit booking or a more precautionary approach. AMCs‘ balanced advantage funds are seeing strong inflows from investors who are hesitant to take on more equity investing risk at this time.
Your portfolio includes a variety of asset classes, such as equities, debt, gold, and so on. The allocation ratio to various investment assets is determined by factors such as your risk profile, time horizon, investment objectives, asset category risk profile, and so on. Aside from these features, the allocation ratio is a useful tool from a different standpoint.
You make purchases in a bad market and profit booking in a bull market when you rebalance your portfolio and return back to your originally determined allocation ratio. This is a discipline that encourages partial profit booking at higher valuations while encouraging buying at lower prices.
For example, an investor follows a 60:40 allocation ratio means that 60% of an investor’s portfolio is invested in equity and 40% in fixed income. The allocation to equities would have been palpably lower than 60% (post-correction) and debt would have gone over 40% during the equity market correction phase of January to March 2020. (due to correction in equity and accruals in debt). He would have purchased that many shares to restore the balance if the rebalancing had been completed in March 2020. This would have resulted in lower-cost purchases.
Coming to the present situation. Following the one-and-a-half-year surge, the equity component of a 60:40 allocation would be higher than 60%. Whether a correction occurs or not, restoring the balance will result in partial profits. You can’t control the market, but you can manage the volatility in your portfolio by controlling the asset allocation in your portfolio.
However, rebalancing faces a psychological hurdle. But, the rationale for doing so is to avoid chasing the highest-return investment pat. Since the returns from multiple categories fluctuate year to year and market cycle to market cycle. The logic is that your portfolio should provide you with the best possible outcome, adjusted for volatility. To put it another way, your journey should be quite painless. Trying to foresee market levels is fruitless; all you can control is the portfolio you put together to meet your goals.