What is Ideal Asset Allocation (Market Cap Wise) For Buy and Hold Investor?

This article is not about the asset allocation into debt and equity but it is about the right mix of market cap allocation to your equity part of the investment based on your risk appetite and the time horizon for your investment.

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All my investment is in the equity market with no investment in debt or for that matter anything that isn’t equity.

I totally know this isn’t the general advise from advisors but I know what I am doing and like it to be that way.

In fact, I have no plans to diversify either. I am of the view of not having a savings bank account but to have a current account because savings account can make you a laid-back investor. You can read my such view from a post in 2011 here.

At my age and with my kind of risk profile, it makes sense. In the book Think and Grow Rich, the author Napolean Hill has shared a quote.

The truth is that man’s most useful years, mentally and spiritually, are those between forty and sixty. – Napoleon Hill

And though I am still a couple of years away from the most beneficial years of my life. I think I should be going for the returns.

I could be wrong but I am ready to take that risk but same can’t be said for everybody. So it is better to have risks managed for those who aren’t of the same view as me.

So this article isn’t about the asset allocation into debt or equity funds but it is about the right kind of market cap allocation to the equity part of your investment.

There has been too much of ado and so let us now come to the question. What should be the ideal allocation in the portfolio in the large-cap fund, midcap fund and small-cap fund?

Parameters of Asset Allocation Matrix

The ideal asset allocation for a large-cap fund or company, midcap fund or company and small-cap fund or company is based on a couple of important factors.

Time Factor

The first and the most important aspect is how much time can you give for building the corpus.

Do you want the money in the near term (3 to 5 years) or you are building the corpus that may be needed after the long-term (5 to 10 years) or it can remain invested for a very long period of time (10+ years)

If you are building the corpus where you are investing for the near term then it should be more asset allocation in the large-cap compared to the small cap.

Risk Profile

The second most important aspect of equity allocation is your ability to take a risk.

Most of us haven’t seen 2008 crash. I was lucky enough to experience it. When we are allocating money, we prepare for better returns or sub-par returns and forget the scenario of negative returns.

As a long-term investor, we can’t neglect the chances of 2008 repeating. Reasons can be different but we should be prepared for such a time and ready for the portfolio returns diminishing.

Warren Buffet time and again has mentioned that anybody who is willing to be an equity investor should be prepared for his or her portfolio to half.

So it is important that one considers the risk of investment in the equity market.

You have to expect 2008 in the next 10, 20 or 30 years for sure. As a long-term investor one should be prepared for it.

So asset allocation in the right mix should be part of how much time you want to remain invested.

The Asset Allocation Matrix

So based on above criteria here is the chart I see is the right mix of asset allocation (large-cap, midcap and small-cap) for the investor.

The percentage is in the order of large-cap allocation midcap allocation and small-cap allocation.

Final Thoughts

Don’t take the above asset allocation as a rule of thumb and choose a variation that you are comfortable with.

In my portfolio the asset allocation is:

The only company which is more than 50k Crore company in my investment portfolio is Pidilite Industries.

I like to invest predominantly in the midcap space directly in the stocks over mutual funds with some allocation to the small-cap companies to boost the overall performance of my portfolio but it is never a very significant asset allocation.

This suits my style of investment but not necessarily an ideal way of doing it.

It doesn’t mean I invest in high-risk companies either. When your total portfolio is in equity, you have to invest wisely. I only invest in companies that pass my investment checklist, fundamental analysis and then business checklist for me to consider a stock for investment.