Combining debt, equity and gold can help investors earn higher returns without a proportionate increase in volatility, a study by WhiteOak Capital Mutual Fund has found.
The fund house’s Chemistry of Investing study examines how different combinations of the three asset classes have historically affected portfolio returns and risk.
The analysis found that adding 10% equity to a portfolio invested entirely in debt increased its average annual return from 6.74% to 7.93%, while reducing volatility from 6.36% to 5.77%.
The study also found that certain portfolios combining debt, equity and gold delivered higher average annual returns with volatility broadly comparable to that of a debt-only portfolio.
Can adding equity reduce portfolio volatility?
A portfolio invested entirely in debt recorded an average annual return of 6.74%, with volatility of 6.36%. When 10% of the allocation shifted to equity, the average annual return rose to 7.93%, while volatility fell to 5.77%.
A portfolio comprising 80% debt and 20% equity delivered an average annual return of 9.11%, with volatility of 6.40% — broadly comparable to the 6.36% recorded by the debt-only portfolio.
The study found that average annual returns generally increased as equity exposure rose across the debt-equity combinations examined. However, volatility also tended to increase at higher equity allocations.
A portfolio split equally between debt and equity delivered an average annual return of 12.66%, with volatility of 12.41%. By comparison, a portfolio invested entirely in equity recorded an average annual return of 18.58%, with volatility of 25.34%.
The findings illustrate how changing the allocation between debt and equity can affect both returns and fluctuations in portfolio value.
How does adding gold affect portfolio returns?
The study also examined portfolios with a 20% allocation to gold, alongside varying proportions of debt and equity.
A portfolio comprising 55% debt, 25% equity and 20% gold recorded an average annual return of 11.58%, with volatility of 6.81%.
By comparison, a debt-only portfolio delivered an average annual return of 6.74%, with volatility of 6.36%. The three-asset portfolio therefore generated higher historical returns, while its volatility remained broadly comparable to that of the debt-only portfolio.
Other combinations also produced different results. A portfolio comprising 70% debt, 10% equity and 20% gold delivered an average annual return of 9.80%, with volatility of 5.50%.
Meanwhile, a portfolio comprising 60% debt, 20% equity and 20% gold recorded an average annual return of 10.98%, with volatility of 6.10%.
The findings show how different allocations to debt, equity and gold can affect historical returns and volatility, with outcomes varying according to the proportions of each asset class.
Why does asset allocation matter?
Gold provided some downside protection in several years when domestic equities delivered negative returns, the study noted. Because asset classes can respond differently to economic conditions, their performance may not move in tandem, potentially helping to manage overall portfolio risk.
Economic cycles and global markets are constantly changing, making it difficult to predict which asset class will perform best. Combining assets with different return characteristics may help investors manage risk while working towards long-term financial goals.
However, historical returns and volatility do not guarantee future performance. The findings also do not mean that adding equity or gold will always reduce risk; outcomes depend on market conditions and the portfolio’s asset allocation.