Explanation

When forming asset classes for strategic asset allocation, the defined asset classes should approximate the relevant investable universe. This is because:

1. Completeness: Asset classes should cover the entire investable universe available to investors, ensuring that all potential investment opportunities are represented in the strategic asset allocation framework.

2. Mutual Exclusivity: Assets should be assigned to only one asset class to avoid double-counting and ensure clear allocation decisions.

3. Homogeneity: Assets within the same asset class should have similar risk and return characteristics.

Let's analyze why the other options are incorrect:

Option B: have high pairwise correlations between them.

• This is incorrect because asset classes should ideally have low correlations with each other to provide diversification benefits. High correlations between asset classes would reduce the diversification effect in a portfolio.

Option C: contain negatively correlated assets within each asset class.

• This is incorrect because assets within the same asset class should be positively correlated with each other. If assets within an asset class were negatively correlated, they would cancel each other out, defeating the purpose of having distinct asset classes with homogeneous characteristics.

Key Principles for Asset Class Formation:

• Completeness: Cover the entire investable universe
• Mutual Exclusivity: No overlap between asset classes
• Homogeneity: Similar assets within each class
• Diversification: Low correlations between different asset classes
• Risk characteristics: Different risk-return profiles across asset classes

Therefore, the correct answer is A - asset classes should approximate the relevant investable universe to ensure comprehensive coverage of investment opportunities in the strategic asset allocation process.