Asset allocation only works if you have the proper model portfolio. This is determined by evaluating your goals, risk tolerance and time horizon. There is no one size fits all approach to asset allocation.
The model portfolio is not determined solely by asset size or age of the investor. An investor in their 20s who is very conservative might not be comfortable losing any assets. A frugal investor in his 70s intent on leaving all assets to adult children may have a higher risk tolerance than the 20-year-old investor. Developing a model that meets your personal needs is much more effective.
Asset allocation is not immune to market volatility. The 2008 major market correction has some people second-guessing the effectiveness of asset allocation. Just about every asset class was hit hard by the recent market correction. Overall losses can be minimized by including fixed income and investments that are non-correlated to the major market indices.
Third, asset allocation will not be successful with the “set it and forget it” approach. A well developed asset allocation is only the first step to using diversification as an investment model. Equally important is your method for monitoring and making adjustments when necessary. Our lives and emotions around money are always changing.
Asset allocation requires individual evaluation and creation of a model based on your personal situation. Investors must have a clear understanding of the risk associated with their individual plan and must be committed to reviewing the plan often so adjustments can be made when appropriate.
When implemented effectively and continuously monitored, asset allocation can create a resilient investment portfolio with both downside protection and upside potential. It splits an investor’s investments among stocks, bonds and other vehicles in an attempt to provide a consistent return.
Owning different types of securities may help you benefit from changing economic conditions, while helping to cushion your savings against volatility in any particular asset class.
