What is Asset Allocation?
Asset allocation can be an effective way to help manage risk in your investment portfolio.
Simply put, asset allocation is a strategy that involves selecting a mix of investments appropriate to your risk tolerance, time horizon, and financial goals.
What are the most common types of investment assets?
The most common types of investment assets, or asset classes, are
- cash equivalents;
- fixed income securities, such as bonds or bond funds;
- and equity securities, such as stocks or equity funds.
Each asset class is expected to have different levels of risk and return characteristics. So each will behave differently over time. For example, stocks are typically considered riskier than bonds, but they also offer the potential for higher returns over the long-term.
What options do I have for my portfolio?
If you're a young investor saving for retirement, with plenty of time before you're likely to withdraw the funds, you may wish to consider allocating more of your portfolio to equities, say maybe a split of 60% equities to 40% fixed income.
As you get closer to retirement, you may want the comfort of a more income-oriented portfolio, with say, maybe only 40% equities and 60% fixed income, even if it means giving up some of the potential for higher growth in exchange for lower, more steady returns.
Modifying your portfolio this way over time by increasing the fixed income allocation and decreasing the equity allocation may effectively reduce your portfolio's volatility as you approach your investment goals, such as retirement.
Along with asset allocation, you can further diversify your portfolio by selecting a mix of securities within each asset class. For example, there are different types of securities classified by geographical locations, industry sectors, or investment styles. And because investments within various asset classes may behave differently, a periodic review and rebalancing of your portfolio will help ensure it maintains the right asset mix based on your current circumstances.
A financial advisor can help you set, maintain, and modify an asset allocation strategy based on your risk tolerance, time horizon, and financial goals.