Asset Allocation Backtest — 60/40 vs 80/20 Over 15 Years in India

You want to grow your money wisely. A smart investor knows that what is asset allocation is key. It means spreading your investments across different types of assets. This helps manage risk and aims for better returns over time. Today, we will look at two popular ways to do this in India: the 60/40 and 80/20 portfolios. We will run a backtest for these over 15 years, from January 2008 to December 2022. You will see how these strategies might have performed for you.

Understanding What Asset Allocation Means

Asset allocation is simply how you divide your investment money among different asset classes. Think of it like building a balanced meal. You don't just eat one type of food. You mix different types to get all nutrients. In investing, the main asset classes are:

• Equities (Stocks): These are shares in companies. They can offer high growth but also come with higher risk. Their value can go up and down a lot.
• Debt (Bonds, Fixed Income): These are like loans you give to governments or companies. They usually offer more stable, lower returns compared to stocks. They are generally less risky.

The goal is to find a mix that fits your risk comfort and financial goals. Different assets behave differently during market changes. When stocks fall, bonds might hold steady or even rise. This helps smooth out your overall investment journey.

The 60/40 Portfolio: A Balanced Approach

The 60/40 portfolio means putting 60% of your money into equities and 40% into debt. This has been a classic choice for many investors worldwide. It aims for a good balance between growth and safety. You get growth potential from stocks. You also get stability and income from bonds. It's often suitable for:

• Investors who want growth but also need some protection from big market falls.
• Those with a moderate risk tolerance.
• People who are nearing retirement or want a more stable portfolio.

The 80/20 Portfolio: Aiming for Higher Growth

The 80/20 portfolio means putting 80% of your money into equities and 20% into debt. This allocation shows a higher appetite for risk. You are leaning more towards growth. The larger equity share means you hope for bigger returns when the market does well. But it also means bigger drops when the market falls. This approach is often for:

• Younger investors with a long time horizon.
• Investors who are comfortable with higher risk and market ups and downs.
• Those who have many years until they need their money.

Our 15-Year Backtest in India (January 2008 - December 2022)

Let's see how these two portfolios might have performed in the Indian market. We will look at a 15-year period from January 1, 2008, to December 31, 2022. This period includes different market conditions. It saw the 2008 financial crisis, periods of strong growth, and the COVID-19 pandemic. This is a hypothetical backtest. It uses average returns and does not account for real-time market changes, taxes, or specific fund expenses. But it gives you a good idea.

Our Assumptions for This Backtest:

• Equity Returns: We will use an average annual return of 11.5% for Indian equities. This is a reasonable proxy for a broad market index like the Nifty 50 Total Return Index (TRI) over this period.
• Debt Returns: We will use an average annual return of 7.5% for Indian debt. This represents a diversified debt fund portfolio.
• Rebalancing: We assume you rebalance your portfolio once a year. This means you adjust your assets back to the target 60/40 or 80/20 mix.
• Initial Investment: Let's start with an initial investment of 100,000 rupees.

Here's how the two portfolios compare:

1. The 60/40 Portfolio Performance

   With 60% in equities (11.5% return) and 40% in debt (7.5% return), your average annual return would be:

   (0.60 * 11.5%) + (0.40 * 7.5%) = 6.9% + 3.0% = 9.9% per year.

   If you invested 100,000 rupees at the start of January 2008, after 15 years, your money would grow to approximately 407,000 rupees.

2. The 80/20 Portfolio Performance

   With 80% in equities (11.5% return) and 20% in debt (7.5% return), your average annual return would be:

   (0.80 * 11.5%) + (0.20 * 7.5%) = 9.2% + 1.5% = 10.7% per year.

   If you invested 100,000 rupees at the start of January 2008, after 15 years, your money would grow to approximately 454,000 rupees.

Backtest Summary Table

Disclaimer: This backtest uses assumed average returns for illustration. Actual market returns can vary greatly year to year. Past performance does not guarantee future results. Your real returns would differ based on exact investment choices, market timing, fees, and taxes.

Key Takeaways from the Backtest

What can you learn from this hypothetical comparison?

• Higher Equity, Higher Potential Returns: Over a long period like 15 years, the 80/20 portfolio, with its higher equity exposure, generally showed higher returns. This is often true in growing economies like India.
• Risk and Volatility: The 80/20 portfolio would have seen bigger ups and downs. If you had invested in 2008, you would have faced the financial crisis head-on. A higher equity share means riding out larger market swings.
• Stability of 60/40: The 60/40 portfolio offered a slightly lower but still strong return. It would have felt more stable during volatile times due to its larger debt component. This stability can help you stay invested even when markets are tough.
• The Power of Long-Term Investing: Both portfolios showed significant growth over 15 years. This proves that staying invested for the long term is crucial, no matter your asset mix.
• Importance of Rebalancing: Annual rebalancing ensures your portfolio stays true to your chosen asset mix. Without it, a rising stock market might turn your 60/40 into an 80/20 without you knowing, increasing your risk.

Choosing Your Own Asset Allocation Strategy

So, which strategy is right for you? It's not about which one performed better in this backtest. It's about finding the right fit for your personal situation. Consider these factors:

• Your Age: Younger investors often have a longer time horizon. They can take more risks. As you get older, you might want to shift towards more debt and less equity.
• Your Risk Tolerance: How well can you sleep at night when your investments drop by 20% or 30%? If big drops stress you out, a more conservative allocation (like 60/40 or even lower equity) might be better.
• Your Financial Goals: Are you saving for retirement 30 years away? Or for a down payment on a house in 5 years? Shorter goals usually mean less risk.
• Your Income Stability: If your job or business income is very stable, you might feel more comfortable taking investment risks.

You can also explore different types of mutual funds to implement your chosen asset allocation. For more details on mutual funds in India, you can visit AMFI India.

Your asset allocation is not a one-time decision. You should review it regularly. Adjust it as your life changes, your goals evolve, or your risk comfort shifts. This personal touch is what makes your investment plan truly yours.