How to asset Allocate

Asset allocation is a crucial part of investing. It helps you decide how to distribute your money across different assets like stocks and gold. This might seem complicated, but it can be simplified. In this example, we only consider stocks and gold. While in real life, you might also invest in real estate, debt, and other assets, focusing on stocks and gold can help us understand the basics. Over 33 years, the prices of gold and stocks in India have shown an interesting pattern. This pattern can help us make better investment decisions.

The Inverse Relationship Between Stocks and Gold

When looking at the ratio of gold prices to Nifty (a stock index in India), we see an inverse relationship.

This means that when gold prices are high, stock prices are usually low, and vice versa. Over 33 years, this ratio has moved between 0.25 and 0.65. Understanding this pattern can guide us on when to buy more stocks or more gold.

When the ratio is low, stocks are doing well, so it might be better to buy gold.

When the ratio is high, stocks are not doing well, so buying more stocks can be a good idea.

Practical Application of Asset Allocation

Let’s say you have 100 rupees to invest. When the ratio is between 0.55 and 0.35, you might want to keep your investment 50% in stocks and 50% in gold. If the ratio is low, meaning stocks are high, you might want to have more gold, like 75% gold and 25% stocks. If the ratio is high, meaning stocks are low, you might want to have more stocks, like 75% stocks and 25% gold. This way, you can balance your investments based on the performance of stocks and gold.

Adjusting Your Portfolio Over Time

Using this method, you can adjust your portfolio regularly. For example, in 2003, when stocks were low, you would buy more stocks. By 2008, when stocks were high, you would switch to buying more gold. This way, you can take advantage of the changing market conditions. Recently, during COVID-19, the ratio indicated it was a good time to buy more stocks and sell some gold. Keeping an eye on this ratio can help you make smart investment decisions.

Maintaining a Balanced Portfolio

It’s essential to review your investments regularly. For instance, if you are comfortable with a 50/50 allocation of stocks and gold, check at the end of each year. If your stocks have performed well and now make up 60% of your portfolio, sell some stocks and buy more gold to return to a 50/50 split. This helps maintain balance and manage risk. If the ratio changes, adjust accordingly to keep your investments aligned with your strategy.

Check out the detailed video on the WeekendInvesting App