CHAPTER 8


8.2 ASSET ALLOCATION STRATEGY

ASSET ALLOCATION STRATEGIES

BENEFITS

DEFINITION

PORTFOLIO MANAGEMENT PROCESS

⭐ Asset Allocation is the process of dividing an investment portfolio into various asset classes to preserve capital by protecting against negative developments while taking advantage of positive ones


❎ SECURITY ANALYSIS


  • process to identify which security analysis is to develop and analyze the probability return distribution for investment that the investor considering
  • Study Current Financial and Economic conditions and forecast future trends
  • Determine strategies that should meet goals within the expected environment
  • Requires monitoring and updates since financial markets are ever-changing

❎ POLICY STATEMENT


  • are like road map for travelers.These objectives provide basic useful framework for selecting individual investment vehicles for the portfolio.

❎ CONSTRUCT THE PORTFOLIO


  • Allocate available funds to meet goals while managing risk

PORTFOLIO ANALYSIS

  • The measures of risk and expected return of individual securities are used to construct optimal portfolios. There are several techniques that can be used to identify this set of optimal portfolios.

PORTFOLIO SELECTION

  • Once the set of optimal portfolios have been identified, investors need to pick one portfolio that matches their preference for expected return and their risk tolerance

❎ MONITOR AND UPDATE


  • Monitor and update investor needs, environmental conditions, portfolio performance



    ■ Revise policy statement as needed


    ■ Modify portfolio accordingly

🔥 STRATEGIC ASSET ALLOCATION


  • assigning weights to different asset classes on the basis of an investor`s risk and return objectives and the capital market expectations

🔥 TACTICAL ASSET ALLOCATION


  • asset allocation plan that uses stock-index futures and bond futures to change a portfolio’s asset allocation based on market behavior

🔥 CONSTANT-WEIGHTED ASSET ALLOCATION


  • continually re-balance the portfolio
  • for example, if one asset is declining on value, it should purchase more of the asset and if that asset value is increasing it should be sell

🏁 REDUCED RISK


  • a properly allocated portfolio strives to lower volatility, or fluctuation in return, by simultaneously spreading market risk across several asset class categories

🏁 MORE CONSISTENT RETURN


  • by investing in a variety of asset classes, we can improve our chances of participating in market gains and lessen the impact the poorly performing asset class categories on overall results

🏁 A GREATER FOCUS ON LONG-TERM GOALS


  • a properly allocated portfolio is designed to alleviate the need to constantly adjust investment positions to chase market trends.
  • it also can help reduce the urge to buy or sell in response to short-term market swings

FACTORS

❗ INCOME

❗ TIME HORIZON

❗ AGE

❗ RISK TOLERANCE

🔥 DYNAMIC ASSET ALLOCATION


  • constantly adjust the mix of asset as market rise and fall, and as the economy strengthen and weakens

🔥 BALANCED ASSET ALLOCATION


  • provides a framework to re-balance the portfolio to the ratio of the original asset mix.
  • it involves selling the securities in the asset class which has appreciated in value and investing in other asset classes to restore the original asset mix

CONVENTIONAL WISDOM ON ASSET ALLOCATION

♻ RISK TOLERANCE


  • an investor with greater tolerance of risk should tilt the portfolio in favor of stocks, whereas an investor with lesser tolerance for risk should tilt the portfolio in favor of bond

♻ TIME HORIZON


  • an investor with a longer investment horizon should tilt the portfolio in favor of stocks whereas an investor with a shorter investment horizon should tilt the portfolio in favor of bonds.
  • it is because the risk from stocks diminishes as the investment period lengthens