Overview Of Asset Allocation

Question 1

Describes the different criteria that can be used to identify asset classes

Answer 1

• Assets in an asset class should have the same descriptive and statistical perspective
• Assets cannot be classified into more than one asset class
• Asset classes should not be highly correlated.
• Asset classes should cover all possible investsble assets
• Asset classes should contain a sifficiently large % of liquid assets

Question 2

Describe the different factors to consider when defining the optimal width corridor for an asset class.

Answer 2

Transaction cost : Higher it costs, wider are the corridor

Risk Tolerance : High risk tolerance investor will lead to wider corridors

Correlations : If assets in the portfolio are highly correlated, they tend to move in the same direction.

Momentum : If investor believe current trend will continue, the corridor for that particular asset class can be wider.

Liquidity : Illiquid investment have wider corridor

Taxes : Taxable investor will ussually have wider corridor to lower capital gain taxes

Volatility : Higher volatility usually means narrower corridor.