If you read any personal finance or investment related book, you will invariably come across the term asset allocation and how it represents the single most important skill of any investor. Let me try to explain this term in a practical way.
If I gave you 1 lakh rupees, how would you invest it?
- Would you invest the whole amount in a fixed deposit?
- Would you max out your PPF account? (the new limit is 1.5 lakhs now)
- Use it to buy shares of your favorite stocks?
- Invest it in mutual funds? If yes, which category?
- Would you buy gold (physical or demat)?
- Invest it in real estate?
I've listed some of more popular investment vehicles, but there are many others available.
The point is that if you try out this exercise by yourself, you might discover which asset classes you are more inclined to invest, based on your experience and understanding of that asset class.
Observe your investment pattern. Do you split the amount into several categories or do you prefer to invest it in one or a few select categories?
Also know that the decision you take will depend on where you are in your financial life. If you are close to retirement (or financial freedom), you would prefer safer instruments like fixed deposits and bonds. If you have an inclination for the stock market, you might invest either directly in stocks or equity mutual funds.
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