The last year has been fantastic in terms of returns, where the mid-cap and small-cap indices have outperformed large-cap indices by a huge margin. The Nifty 50 has gained 30% for FY24 while the Nifty Midcap 150 and the Nifty Smallcap 250 have gained~58% and ~65% for FY24.
Amidst a strong performance year, in the frenzy of the bull market, you should not forget to evaluate your portfolio’s performance as this will help you understand the drivers that have influenced performance positively or negatively.
Therefore, this blog is an attempt to help you re-visit the basic concepts and metrics used in evaluating portfolio performance and how these metrics can help you make future informed financial decisions.
- Define your goals clearly– As an investor, you must define your goals as well as the time horizon clearly, before starting the performance evaluation. There can be diverse financial goals ranging from sending a child overseas for education which is a nearer-term time goal to legacy planning which is a long-term goal. Clearly defined investment objectives can serve as a guiding principle to understand if you should hold or exit an asset. For example – if you are invested in equities and markets go down, you need not panic if your goal is 5+ years away.
- Asset allocation– Asset allocation plays a significant role in portfolio performance. Evaluate whether your portfolio is aligned with your target asset allocation. If certain asset classes have deviated significantly from your intended allocation, consider rebalancing to realign your portfolio. Running a contrasting allocation away from your suited one may cause anxiety or stress. For example – if you have an aggressive risk profile, investing in conservative assets may disturb you and vice versa.
- Consider Geographical Diversification: Diversification is a cornerstone of prudent investing. Assess the diversification within your portfolio to ensure you are not overly exposed to any single asset class or geographic region. A well-diversified portfolio can help mitigate risk such that in case one geography doesn’t do well, other markets in your portfolio may buffer the downfall.
- Assess Market Conditions: Understand the broader market environment and how it may be influencing your portfolio’s performance. Market volatility, economic indicators, geopolitical events, and monetary policies can all impact investment returns. Consider whether your portfolio is positioned to navigate current market conditions effectively.
- Risk-adjusted returns – While returns are important, they only tell part of the story. Risk-adjusted returns take into account the level of risk you took to achieve those returns. The Sharpe ratio and the Sortino ratio are popular metrics for assessing returns you get after accounting for risk-free returns. A higher ratio indicates better risk-adjusted performance.
- Stress testing- You should conduct a stress test and scenario analyses to evaluate how your portfolio would perform under adverse market conditions or specific economic scenarios. This proactive approach helps identify potential vulnerabilities and allows for risk mitigation strategies to be implemented.
- Professional advice- Navigating the world of investments could be overwhelming for you as an investor. An experienced and SEBI registered advisor can help you create a customized investment strategy, select suitable investments, and monitor your portfolio performance over time.
Evaluating portfolio performance isn’t complex when investors grasp basic concepts like risk-adjusted returns and asset allocation. Yet, akin to a doctor diagnosing our health and prescribing treatment, an investment advisor plays a crucial role in analyzing portfolios and suggesting adjustments to ensure you reach your financial goals and objectives.
Disclaimers
- Investments in securities market are subject to market risks. Read all the related documents carefully before investing.
- Registration granted by SEBI, membership of BASL and certification from National Institute of Securities Markets (NISM) in no way guarantee performance of the intermediary or provide any assurance of returns to investors.
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- The securities quoted are for illustration only and are not recommendatory.