Asset Allocation

Studies show that proper asset allocation is more important to long-term returns than specific investment choices. So what is asset allocation?

Asset allocation means dedicating certain percentages of your investment holdings to broad asset categoies like stocks, bonds, real estate and cash as a way to achieve your financial goals while also managing investment risk. Because different categoies behave differently and carry different levels of risk, you can combine them into a portfolio to achieve specific benefits with an acceptable amount of risk. Stocks, for example, offer potential growth and income, while bonds offer stability and income. Different investors will have a mix of these categories to achieve their specific financial goals.

Why is asset allocation a good strategy? History shows us that asset categories perform differently over time. Sometimes bonds post the best returns one year and stocks the next. Real estate has been on fire the past few years but may cool next year as higher interest rates price buyers out of the market. Keeping track of the correlation of asset categories and rotating exposure to winning categories over time will yield superior investment results.

Balancing risk and reward is key to a successful investment plan. Asset allocation helps investors balance the returns they want with an acceptable level of risk. Your asset allocation strategy should be based on your investment goals, time frame and risk tolerance. Retired investors may want to emphasize bonds and cash to provide income and stability. A young professional may take advantage of a longer time frame to reap the potential growth from a higher stock allocation.

But don't stop there. Diversification among the larger asset categories will help reduce overall portfolio volatility (risk). Choosing among different classes within asset categories takes asset allocation a step further. Stock classes such as Value, Growth, Large Cap, Small Cap and International offer opportunities to focus equity investment in targeted areas. Similarly, bond classes such as Government, Corporate, High Yield and Municipal issues offer differing advantages to income-oriented investors.

Developing a proper asset allocation strategy can be key to investment success. Ongoing reviews and management of your asset allocation plan can help make sure you stay on track to meet your goals. Rebalancing may be necessary due to changes in market or asset values. You also may need to reallocate if your needs chanage or there is a change in the current economic conditions.