Asset allocation is an investment strategy that aims to balance risk and reward by apportioning a portfolio’s assets according to an individual’s goals, risk tolerance and investment horizon
In layman’s terms, the objective of asset allocation is to diversify and maintain a certain level of returns by assigning your portfolio into different asset classes (the three main asset classes include equities, fixed-income and cash and equivalents). Do note that these different asset classes have different characteristics in terms of risk and return and are likely to behave differently over time. Besides the three main asset classes, property and commodities can be included in the portfolio as well.
Although there is no fixed rule to the right asset allocation for every individual, asset allocation will be one of the most important decisions one investor has to make, which eventually will determine the investment results at the end of the day.
Investors may use different asset allocations for different objectives. For example let’s see how it applies for Jessica, Kelly and Charlotte:
Jessica – who is saving for a new car in the upcoming 1-3 years
Kelly – who is saving for her kid’s education fund that will be needed in another 10 years.
Charlotte – who is saving for her retirement funds (greater than 20 years)
These individuals will have different styles of allocating their assets as their objectives are different. Jessica will be worried of short-term fluctuations, while Kelly or Charlotte may have time to ride out the market’s volatility and aim for long-term investing.
Having said that, risk tolerance plays a crucial factor as some individuals may not be comfortable to invest in stocks (generally perceived as having high volatility and risk) and opt for a more conservative allocation despite the distant
Rules to allocate your investment – Age-based asset allocation
There are plenty of asset allocation strategies which will work for different objectives. We will dissect the asset allocation strategies based on age groups for ease of understanding.
Again, these strategies are not fixed and may differ with each individual. As a general rule of thumb, the younger you are, the riskier the portfolio you would go for. For investors that have lesser risk appetite, they might tone down on the equities portion and put the rest under bonds or cash. At the end of the day, the idea of asset allocation is to balance the risk and reward of an investor by diversifying their assets to achieve a certain desired result.
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