Asset allocation, simply put, is how you’ve divided your savings among different investments through a process of diversification. Typically, such diversification is between stocks and bonds, but other types of investment areas like commodities, real estate, and even collectibles, can be involved too.
If you’re a stock market junkie or perhaps even just a mildly active investor, you probably keep tabs on the asset allocation in your portfolio most of the time. But if you shy away from 401(k) statements or sidestep making decisions about savings plans, you might not. And that might not be a wise thing these days.
The stock market can go up or down — and often does. It set new records here and there in the past decade while generally advancing well beyond the market troughs of the early to mid-2000s. But political and international uncertainties — not to mention unforeseen crises like a pandemic or spike in inflation — rock it periodically.
When that happens worries begin to surface about whether or not stock market pullbacks will linger.
Market retreats: Who gets hurt?
Pullbacks, obviously, affect all investors. But such retreats are particularly concerning for those people approaching retirement and expecting their stock portfolios to help support them through the Golden Years. Younger investors have time to recover from market losses; older investors, not so much. (Related: Investing basics)
That’s why most money managers and financial professionals preach the wisdom of diversification, the investment equivalent of not putting all your eggs in one basket.
Although there are no guarantees, spreading investments out over a variety of vehicles in addition to stocks — like bonds, commodities, real estate, and, yes, even annuities (admittedly including MassMutual products) — can help preserve value in a portfolio should the equity markets take a tumble.
Then again, when one market takes off, investments in other areas may limit a portfolio’s advance. Indeed, in any advancing market there will be pundits saying a correction may come there and others saying the gains will likely continue and investors shouldn’t miss out. No one can be sure and for each individual investor the question revolves around how much risk he or she is willing to accept. (Know your risk profile?)
This is where asset allocation and diversification comes into play. The proper mix of investments – stocks, bonds, and other areas – will not be the same from investor to investor.
- An older investor may want more of his or her portfolio in less volatile investments in order to safeguard retirement savings.
- Those investors with a longer time horizon may be willing to accept a little more volatility and risk in exchange for the possibility of greater gains over time.
- And some investors may opt for ground in-between, putting a portion of their money into risky areas while channeling some into more stable markets and vehicles that will build steady value over time.
The investment mix within a portfolio — the asset allocation — will differ from person to person and depend on factors like his or her time horizon, financial circumstances, goals, and personal disposition toward risk and reward.
Additionally, the proper asset allocation for a particular person will change over time, as they get older or their tax status and investment goals change. Also, new investment opportunities may become available.
That’s why many investors revisit their asset allocation on a regular basis and look for new opportunities to diversify, (Related: Fix your mix and review your asset allocation)
Depending on the situation or complexity, some people opt to consult a financial professional or other expert to review their asset allocation, diversification, and investment mix.
So, how’s your asset allocation?
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This article was originally published in June 2017. It has been updated.