top of page

What is Asset allocation and capital preservation and why does it matter

Asset allocation is the most common buzzword among investors. However, few understand the entire workings of different asset allocation strategies. For the layman, asset allocation means investing in different asset instruments such as equity, cash, debt, fixed income, real estate, etc.

Asset distribution aims to reduce risks and compound the originally invested amount.

How asset allocation works

Asset allocation is not simply a distribution of your capital across different segments. It involves studying correlations among assets in different market conditions and whether these correlations together help to balance out the risks in volatile markets. Assets also age in different ways depending on their attributes, such as their liquidity, profitability, and stability.

For example, a technology company will age differently and may have a highly elevated valuation in just a few years but may remain volatile to certain market conditions as it grows. Whereas stocks of a central bank may not go up in their valuation as much but may remain sturdy to global market changes.

Hence, different asset classes help you gain returns and preserve capital in their unique ways. Asset allocation essentially helps you to dilute the risks of a concentrated portfolio to create a heterogeneous and resistant investment portfolio.

Capital preservation and asset allocation

Capital preservation is always known as the conservative investor’s go-to strategy. However, these days, capital preservation is not seen only as a risk-averse strategy but a smart move even for those who wish to take risks to earn attractive returns.

Capital preservation essentially means maintaining the originally invested amount without any losses at any given point during the investment life cycle. Hence, investors who primarily aimed to preserve their capital invested in short-term, conservative instruments. The major drawback of capital preservation strategies was the adverse impact of inflation and the opportunity costs.

Investors these days are looking at both capital preservation and earning profitable returns with asset allocation strategies. Asset distribution helps to create a portfolio that floats through market ups and downs and earns returns when the market conditions are hopeful.

Factors that affect asset allocation

Asset allocation strategies are diverse and differ from one investor to another. The asset makeup of a portfolio is completely dependent on investors’ goals and their investment personalities. Here are a few such basic factors that dictate asset composition and its allocation.

1. Time or geographical location