Asset Allocation: A Sound Investment Strategy Erollover.com 2008 In today’s complex financial markets, you have an impressive array of investment vehicles from which to select. Each investment also carries some risks, making it important to choose wisely if you are selecting just one. The good news is that there’s no rule that says you must stick with only one type of investment. In fact, you can potentially lower your investment risk and increase your chances of meeting your investment goals by practicing "asset allocation". What Is Asset Allocation? Asset allocation refers to the way in which you weight diverse investments in your portfolio in order to try to meet a specific objective. For instance, if your goal is to pursue growth (and you’re willing to take on market risk in order to do so), you may decide to place 20% of your assets in bonds and 80% in stocks. The asset classes you choose, and how you weight your investment in each, will probably hinge on your investment time frame and how that matches with the risks and rewards of each asset class. Stocks, Bonds, and Money Markets Here’s a closer look at the risk and reward levels of the major asset classes: * Stocks — Well-known for fluctuating frequently in value, stocks carry a high level of market risk (the risk that your investments’ value will decrease after you purchase them) over the short term. However, stocks have historically earned higher returns than other asset classes by a wide margin, although past performance is no predictor of future results. Stocks have also outpaced inflation (the rising prices of goods and services) at the highest rate through the years, and therefore carry very low inflation risk. * Bonds — In general, these securities have less severe short-term price fluctuations than stocks and therefore offer lower market risk. On the other hand, their overall inflation risk tends to be higher than that of stocks, as their long-term return potential is also lower. * Money market instruments1 — Amongst the most stable of all asset classes in terms of returns, money market instruments carry very low market risk. At the same time, these securities don’t have the potential to outpace inflation by as wide a margin through the years as stocks. 1An investment in a money market fund is not insured or guaranteed by the Federal Deposit Insurance Corporation or any other government agency. Although the fund seeks to preserve the value of your investment at $1.00 per share, it is possible to lose money by investing in the fund. Before exploring just how you can put an asset allocation strategy to work to help you meet your investment goals, you should first understand how diversification (the process of helping reduce risk by investing in several different types of individual mutual funds, target date funds, target risk funds or individual securities) work hand in hand with asset allocation. When you diversify your investments among more than one security, you help reduce what is known as "single-security risk", or the risk that your investment will fluctuate widely in value with the price of one holding. Diversifying amongst several asset classes increases the chance that, if and when the return of one investment is falling, the return of another in your portfolio may be rising (though there are no guarantees). For example, in 2002, large-company stocks lost 22.1%, while long-term government bonds returned 13.8%2. (Keep in mind that past performance cannot guarantee future results.) This chart illustrates sample portfolio asset allocations: Low Risk (those nearing or in retirement); Moderate Risk (middle-aged investors); Aggressive Risk (younger investors). *Allocations are presented only as examples and are not intended as investment advice. Consult a financial representative if you have any questions about how these examples apply to your situation. Asset Allocation Can Work The above chart can help you select an appropriate allocation for your investment portfolio based on your life stage. For instance, at age 25 you may decide to invest with the goal of retiring in comfort within 40 years. Most likely, your investment goal is to achieve as much growth as possible — growth that will outpace inflation substantially. In aiming to reach this goal, you may allocate 70% of your assets into aggressive growth stocks, 20% into bonds, and 10% into money market instruments. You have years to ride out the wide fluctuations that come with stocks, but at the same time, you potentially lower your risk with your bond and money market holdings. Because your goals and circumstances are unique, you may want to talk with a financial representative who can help you tailor an allocation strategy for your needs. Generally, your asset allocation will change as you reach different stages in your life, as your investment goals also change along with these shifts in lifestyle. If you have been investing aggressively for retirement for more than 20 years and are now less than 10 years from retiring, protecting what your investment may have earned from market ups and downs may become more important. In this case you may want to gradually shift some of your investment allocation into your bond and money market holdings. Keep in mind, however, that many financial experts recommend that some growth investments be considered for every portfolio to potentially protect your buying power in the future. A Simple Process, Some Dramatic Potential Results Asset allocation is a simple concept, yet vital to long-term investment success. In fact, a landmark study cited in Financial Analysts Journal shows that about 90% of the variability of average total returns earned by balanced mutual funds and pension plans over time was the result of asset allocation policy23. For many individual investors, the asset allocation decision amounts to choosing what types of mutual funds to invest in and the amount to invest in each type of fund. Others may want to add individual securities to this mix after exploring their investment options. Regardless of the asset allocation strategy you choose and the investments you select, keep in mind that a well-crafted plan of action over the long-term can help you weather all sorts of changing market conditions as you aim to meet your investment goal(s). Points to Remember 1. Asset allocation is the way in which you spread your investment portfolio among different asset classes, such as stocks, stock mutual funds, target risk funds, target date funds, bonds and bond mutual funds. 2. When prices of different types of assets do not move in tandem, combining these investments in a portfolio can help reduce the variability of returns, commonly referred to as "market risk". 3. Mutual funds are pools of securities, usually offering diversification within a single asset class. Some mutual funds like target risk and target date funds may include several asset classes. 4. The asset allocation that is right for you depends on your investment timeframe, goals and tolerance for risk. 5. As your investment timeframe and goals change, so might your asset allocation. Many financial experts suggest reevaluating your asset allocation periodically or whenever you experience a milestone event in your life such as marriage, the birth of a child, or retirement. Asset allocation and diversification do not assure a profit or protect against a loss.
In today’s complex financial markets, you have an impressive array of investment vehicles from which to select. Each investment also carries some risks, making it important to choose wisely if you are selecting just one. The good news is that there’s no rule that says you must stick with only one type of investment. In fact, you can potentially lower your investment risk and increase your chances of meeting your investment goals by practicing "asset allocation". What Is Asset Allocation? Asset allocation refers to the way in which you weight diverse investments in your portfolio in order to try to meet a specific objective. For instance, if your goal is to pursue growth (and you’re willing to take on market risk in order to do so), you may decide to place 20% of your assets in bonds and 80% in stocks. The asset classes you choose, and how you weight your investment in each, will probably hinge on your investment time frame and how that matches with the risks and rewards of each asset class. Stocks, Bonds, and Money Markets Here’s a closer look at the risk and reward levels of the major asset classes: * Stocks — Well-known for fluctuating frequently in value, stocks carry a high level of market risk (the risk that your investments’ value will decrease after you purchase them) over the short term. However, stocks have historically earned higher returns than other asset classes by a wide margin, although past performance is no predictor of future results. Stocks have also outpaced inflation (the rising prices of goods and services) at the highest rate through the years, and therefore carry very low inflation risk. * Bonds — In general, these securities have less severe short-term price fluctuations than stocks and therefore offer lower market risk. On the other hand, their overall inflation risk tends to be higher than that of stocks, as their long-term return potential is also lower. * Money market instruments1 — Amongst the most stable of all asset classes in terms of returns, money market instruments carry very low market risk. At the same time, these securities don’t have the potential to outpace inflation by as wide a margin through the years as stocks. 1An investment in a money market fund is not insured or guaranteed by the Federal Deposit Insurance Corporation or any other government agency. Although the fund seeks to preserve the value of your investment at $1.00 per share, it is possible to lose money by investing in the fund. 
Before exploring just how you can put an asset allocation strategy to work to help you meet your investment goals, you should first understand how diversification (the process of helping reduce risk by investing in several different types of individual mutual funds, target date funds, target risk funds or individual securities) work hand in hand with asset allocation. 
