An investment portfolio is a mix of different assets like equity shares, bonds, government securities, money market instruments, mutual funds and more. Creating a portfolio of different assets can be hard for beginners, especially if they are not aware of the risks and returns from each type of investment. If you too are having trouble with this, you need to first understand what portfolio composition is and why it matters.
In this article, we take a closer look at what it means and explore different types of portfolios based on their composition.
What is the meaning of portfolio composition?
The term portfolio composition refers to the asset mix in an investment portfolio. It not only includes the type of assets in the mix but also refers to asset allocation — which is the proportion of capital allocated to each type of asset or asset category in the portfolio.
The ideal investment portfolio composition varies from one investor to another. You need to find what works best for you. Furthermore, your ideal portfolio mix may also vary as you age and your investment goals or risk tolerance changes.
Example of Portfolio composition
Now that you know what portfolio composition is, let us discuss an example of how you can assess the composition better. Consider a portfolio valued at Rs. 1 crore, belonging to an investor with a moderate tolerance for risk. The portfolio composition, in this case, could be as follows:
Stocks (50%): Rs. 50 lakhs
This portion may include a mix of large-cap, mid-cap and small-cap stocks. Large-cap stocks provide stability and steady growth, mid-cap stocks come with high growth potential and small-cap stocks bring in high-risk, high-reward opportunities.
Bonds (30%): Rs. 30 lakhs
This segment of the portfolio may include government securities and corporate bonds. Government securities are backed by a sovereign guarantee, making them virtually risk-free, while corporate bonds may offer higher potential returns to the investor.
Real estate (10%): Rs. 10 lakhs
This portion of the portfolio comprises investments in Real Estate Investment Trusts (REITs), which offer exposure to real estate markets and also provide regular income through dividends.
Cash and cash equivalents (5%): Rs. 5 lakhs
This segment includes savings accounts, money market funds, short-term T-bills and other cash and cash equivalents, which offer liquidity and quick access to funds.
Alternative investments (5%): Rs. 5 lakhs
These investments include alternative assets like gold, precious metals, art, cryptocurrency and commodities. They diversify the portfolio and provide a hedge against inflation.
Steps to build an Ideal Portfolio Composition
To build a portfolio with a suitable composition, here is what you need to do:
Know your investment goals
Begin by identifying the reasons for your investments. Once you know which goals you aim to achieve by making these investments, you can align them to your target objectives more easily.
Understand your risk tolerance
Determine how much risk you are willing to take. This depends on your financial situation and how comfortable you are with market volatility. It is also influenced by how much loss you can endure.
Determine the ideal asset allocation
Decide the mix of different asset classes (stocks, bonds, real estate, cash, etc.) based on your risk tolerance and investment goals. This determines the portfolio composition.
Choose investments for your portfolio
Based on your asset allocation, you need to choose investments for your portfolio. They must align with your risk tolerance, investment horizon and investment goals.
Build your portfolio and rebalance when required
Review your portfolio periodically to ensure it aligns with your goals and rebalance it if needed. This involves selling some investments and buying others to maintain your desired asset allocation.
Types of portfolios based on their composition
Broadly, investment portfolios can be classified into different types based on their composition. Check out the main types of portfolio composition below.
Aggressive portfolio
An aggressive portfolio carries high risks as well as the potential to deliver high returns. Some common examples of assets that such portfolios focus on include high-growth equity stocks, small-cap mutual funds, value stocks or other equity-oriented investments. You can balance out an aggressive portfolio with some stabler debt instruments. This type of portfolio composition is suitable for younger investors who can afford to take high risks.
Defensive portfolio
A defensive portfolio is the opposite of an aggressive portfolio. Here, the focus is on stable investment options that are less risky. However, the returns generated by such assets also tend to be lower. The primary aim of this type of investment portfolio composition is capital preservation rather than capital appreciation. It is best suited for older investors and retirees who cannot take on much risk.
Income portfolio
An income portfolio is specifically curated to meet the investor’s need to earn additional or alternate income regularly. To meet this goal, such portfolios focus on investments that pay out guaranteed income periodically, like fixed-income securities. They may also include dividend-paying stocks and mutual funds. These portfolios are suitable for both working and retired people who want to secure a stable source of income.
Speculative portfolio
A speculative portfolio can be highly risky, but it is also capable of generating above-average returns if the asset prices move favourably. Such a portfolio composition is generally preferred by speculative traders and investors who have large sums of disposable capital and are comfortable with taking high levels of risk if it also comes with the potential of inflation-beating returns.
Hybrid portfolio
A hybrid portfolio seeks to balance risks and rewards, making it quite ideal for moderate risk-takers who also want to benefit from market-linked returns. So, the asset allocation in this type of portfolio is generally well-balanced between different types of risky and low-risk investments. The portfolio composition can also be adjusted to accommodate for changes in the investor’s risk tolerance and goals.
How to find the ideal composition for your portfolio?
To find the portfolio mix that works best for you, it is important to factor in different aspects such as:
- Your investment goals: Your portfolio should align with your overall financial goals. This means that you must choose assets that can deliver the returns you need to meet different life goals.
- Your risk tolerance: Your risk profile or risk tolerance also influences the type of assets you need to choose for your portfolio. Depending on how much risk you can tolerate, your portfolio may be aggressive, conservative, speculative or balanced.
- Your investment horizon: Your portfolio composition should also account for the timeline of the goals you have planned. The maturity period of the assets you choose (or the time they will take to deliver the required returns) should align with your investment horizon.
Conclusion
The bottom line is that portfolio composition is a vital decision for every investor. Whether you are creating a new portfolio or rebalancing an existing portfolio, you need to pay attention to the asset mix and the asset allocation. If you are having trouble putting together a portfolio, investment vehicles like mutual funds can be helpful for you.
Each mutual fund scheme invests in a basket of different assets like equity shares, debt instruments, money market instruments and more. You can compare mutual funds and choose those that align with your preferred portfolio composition. The Bajaj Finserv Mutual Funds Platform makes this easier for you because you can view, compare and evaluate 1,000+ mutual funds in one place. Once you know which funds to choose, you can either make a lumpsum investment or start a SIP investment in those schemes.
