Asset allocation is the process of dividing up your investments into different asset classes. In other words, what percentage of your money to you put into stocks, bonds, cash, and real estate. If you invested $100,000, and had $70,000 in stocks, $20,000 in bonds, and $10,000 in real estate, your asset allocation would be 70-20-10 stocks to bonds to real estate.
The type of asset allocation you use depends on your investment goals and your age among other factors. If you are younger, you can absorb more risk because you can afford to leave your money in the markets longer. So as a general rule the younger you are the more money you can put into stocks, because you can ride out the waves of volatility in the markets. Someone nearing retirement will need to protect their assets more, because you wouldn't want to be a year from retirement and face a major stock market crash. Sure the markets will eventually recover, but maybe you'd have to work an extra five years if you had put all your cash in the stock market. Hence someone near retirement might be 60-40 bonds to stocks.
The power of this approach is to build a portfolio with a risk level that suits your situation. In the last 40-50 years, the S & P 500 has lost money about 27% of the time. In contrast, bonds have lost money around 11% of the time, on a year by year basis. This illustrates that bonds are safer when it comes to protecting money. However, when the S & P 500 gains, it generates relatively large returns and gains a lot more over the long term. So think bonds for protected, fixed-income investments and stocks for growth. Use an asset allocation strategy to build the levels of growth and protection you need.
When it comes to age, the "100-minus" rule can help investors build a reasonably safe portfolio. Take your age and subtract it from 100. The difference is the amount of money, in percentage terms, to invest in stocks. If you're 30 then 100-30 = 70, so you would be advised to put 70% of your money in stocks. You have a long time before retirement and can ride out stock market volatility. Moreover, you want to grow your money more aggressively.
If you're older, presumably you've already grown your money some and want to protect it. So someone aged 60 would have 100-60 = 40% of their money invested in stocks, and the remainder invested in bonds and cash.
Of course individual financial goals are as varied as the people themselves. You might be 50 but maybe you haven't been investing and need to grow your money more aggressively. In that case, you'll want to put more money into stocks than the formulas suggest.
Your investing strategy goes beyond deciding how much money you want to put in stocks or bonds, it also applies within individual asset classes. Within stocks, you might put a certain percentage in emerging markets if you're aggressive. More conservative investors might stick to the companies that make up the Dow Jones Industrial Average. This applies within bonds as well, really conservative investors may only invest in US Treasury bonds, while a more aggressive portfolio could include junk bond investments.
The type of asset allocation you use depends on your investment goals and your age among other factors. If you are younger, you can absorb more risk because you can afford to leave your money in the markets longer. So as a general rule the younger you are the more money you can put into stocks, because you can ride out the waves of volatility in the markets. Someone nearing retirement will need to protect their assets more, because you wouldn't want to be a year from retirement and face a major stock market crash. Sure the markets will eventually recover, but maybe you'd have to work an extra five years if you had put all your cash in the stock market. Hence someone near retirement might be 60-40 bonds to stocks.
The power of this approach is to build a portfolio with a risk level that suits your situation. In the last 40-50 years, the S & P 500 has lost money about 27% of the time. In contrast, bonds have lost money around 11% of the time, on a year by year basis. This illustrates that bonds are safer when it comes to protecting money. However, when the S & P 500 gains, it generates relatively large returns and gains a lot more over the long term. So think bonds for protected, fixed-income investments and stocks for growth. Use an asset allocation strategy to build the levels of growth and protection you need.
When it comes to age, the "100-minus" rule can help investors build a reasonably safe portfolio. Take your age and subtract it from 100. The difference is the amount of money, in percentage terms, to invest in stocks. If you're 30 then 100-30 = 70, so you would be advised to put 70% of your money in stocks. You have a long time before retirement and can ride out stock market volatility. Moreover, you want to grow your money more aggressively.
If you're older, presumably you've already grown your money some and want to protect it. So someone aged 60 would have 100-60 = 40% of their money invested in stocks, and the remainder invested in bonds and cash.
Of course individual financial goals are as varied as the people themselves. You might be 50 but maybe you haven't been investing and need to grow your money more aggressively. In that case, you'll want to put more money into stocks than the formulas suggest.
Your investing strategy goes beyond deciding how much money you want to put in stocks or bonds, it also applies within individual asset classes. Within stocks, you might put a certain percentage in emerging markets if you're aggressive. More conservative investors might stick to the companies that make up the Dow Jones Industrial Average. This applies within bonds as well, really conservative investors may only invest in US Treasury bonds, while a more aggressive portfolio could include junk bond investments.
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