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Understanding the Benefits of a Balanced Portfolio and Its Different Components

Submitted by admin on June 8th, 2024

So many times we talk about a balanced diet. Why? Because, this diet is rich in all essential nutrients including carbohydrates, fats, fibers, minerals and vitamins in the right proportions. Similarly, a balanced portfolio contains diversified assets across different categories to accomplish an optimal set of risk and return. It usually includes a mix of the following:

Fixed Instruments: It provides higher income and stability through interest payments. However, this option has little growth potential.

Equity: Though tied with higher volatility, equity has higher growth potential.

Cash & Liquid Assets: As the name suggests, this option ensures safety and liquidity. However, they generate very poor returns.

Gold: Its value grows with inflation and hence, it is a good investment avenue for financial stability.

Real Estate: It offers an inflationary safeguard to your financial portfolio in the long run.

Commodities: This unique asset category does not usually depend on bond and stock returns.

Alternative Assets: These serve as unique diversification tools with the potential of better performance compared to other aforementioned assets, over certain periods.

The best part of having a balanced portfolio is it minimizes risks by diversifying investments so that some investment categories’ good performance counterbalances others’ poor performance. For example, equity markets face problems during war or economic downturn, but gold price usually witnesses a sharp increase. Hence, a balance is restored in your financial portfolio.

Why Do You Need a Balanced Portfolio?

Steady Returns: A balanced portfolio always ensures consistent returns. Consistent performance is best realized in the long run. High-risk investments are likely to generate high returns but on the flipside, they are extremely volatile. On the other hand, bonds are more stable assets and promise overall good performances.

Risk Mitigation: Diversification helps to curb the impact of poor performance by a single asset or a few ones on one’s portfolio. Diversification is a way to spread your investments across different asset classes, therefore spreading the risk to make the portfolio less prone to market volatility.

Inflation Protection: Real estate and equity have high growth potential over time, in keeping with the inflation rates or even exceeding them. If these are incorporated into your investment planning, the decision makes your portfolio immune to inflation.

Capital Prevention: It is particularly important for investors in the sunset years of their professional lives or those with significantly poor risk tolerance. A balanced portfolio includes safer investments that are most unlikely to report significant declines, with the sole objective of preserving your capital.

Financial Goal Alignment: A balanced portfolio that works for all is a utopian idea. In other words, though the concept and objective of having a balanced portfolio remain the same, it should be customized to meet one’s personal ambitions, conditions, risk appetite and time horizon. This alignment is important to ensure that the investment strategy meets the investor’s long-term goals.

Psychological Comfort: Diversification reduces worries and anxieties about market volatility. Knowing that your financial portfolio will stay safe and secured irrespective of poor or negative performance of a single asset will give you peace of mind.