Since, the portfolio construction is based on Moderately Conservative Risk Tolerance, this is a clear indication that the investor is either retired or is retired and is solely relying on paychecks from the portfolio income. Another extreme case can be that the investor has already faced the negative side of investment and has lost his money in the past and thus, he prefers to be moderately conservative in his investment approach. Thus, being an ethical investment advisor firm, we cannot force the investor to change his investment approach and thus, we shall continue with the portfolio construction as per moderately conservative approach.
Current Scenario of the portfolio: 100% cash or cash equivalents approach
Suggested Weight Allocation among different asset classes:
I) Fixed Securities: 70%
ii) Equity Securities: 20%
iii) Cash: 10%
Before explaining the rationale for allocating the given percentages among various asset classes, it will be important and quintessential to understand as what a moderately conservative investor desires. Since, most of the investor of this category are near retirement age or are retired. Thus, these investors have the psychology to be in the game but at the same time, they play defensive game. In other words, moderately conservative investors want to see double-digit gains when the financial markets is on the rise but at the same time, at the time of bearish market sentiments, they want to be protected from the double digit decline. Thus, their investment objectives are achieved by having maximum weights to fixed income securities, followed by only core equity classes and zero allocation to risky equity classes. Considering their age, it is always advisable to keep some cash or cash equivalents in their portfolio.
Rationale for Weights of Asset Classes:
Considering the investment objectives of the investors of this category, we always refer to have significant exposure to the fixed asset classes as Bonds, Notes, etc. Furthermore, it has been noted that many retirees prefer to invest in inflation-index bonds so as to cover up their purchasing power at the time of maturity. Within this asset class, investing in 5-10 year treasury bonds will always be preferred as moderately conservative investors looks for 3-5% annual return on their portfolio accompanied with least risks of downsizing their portfolio corpus and the large downside from market fluctuations. Furthermore, treasury securities have high credit ratings; thus investors will not have any worry as 70% of their asset allocation is in high/default free asset class.
Thus, high weight-age to treasury bonds and inflation-indexed bonds will be the most rationale decision for this kind of investment category.
Assuming that the investor has a life expectancy of another 10 years, he will surely look for increase in his/her investment income. Thus, to facilitate this objective and to consider the overall scenario of avoidance of market downsize risk, a 20% allocation to core equity classes will be advisable. No moderately conservative investor would like to have high risk equity classes in their portfolio.
Final 10% allocation to cash and cash equivalents is justifiable so as to cover any emergent health or financial concerns of the investors.
O'Connor. (2012). Portfolio Management Process and Investment Policy Statement. In C. Institute, Portfolio Management (pp. 264-270). Boston: Custom.
Robinson, T. (2011). investing in Bonds. In C. Institute, Fixed Income Securities (pp. 4-12). Boston: Custom.
The Five Most Commonly-used Investment Risk Tolerance Categories. (n.d.). Retrieved March 15, 2014, from Toolsformoeny.com: http://www.toolsformoney.com/investment_risk_tolerance.htm