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Understanding Asset Allocation
Investing is a process that should begin by developing a plan. The process of planning for your financial future will help you define and prioritize your goals and identify the time frames you have to reach those goals.
The investment you select should be in line with an overall asset allocation strategy based on your needs, goals, time frames and your comfort with risk. Understanding your financial goals, risk tolerance and time frames can help you distribute the money you want to invest among the basic types of investments.
One of the early steps in the planning process is to determine the appropriate balance between risk and return that is right for you. Although you may be seeking the highest possible return on your investments, you may not be comfortable with the associated risk. By identifying your risk tolerance you can develop an asset allocation strategy to meet your individual needs.
It is important for you to develop an investment strategy and stick with it through the ups and downs of the market. Historical data shows that risk levels of investments decline over time. The longer your investment horizon, the greater your ability to ride out periods of market volatility.
An asset allocation strategy involves distributing the money you want to invest among three basic types of investments: stocks, bonds, and cash equivalents. The percentage of money you invest in each category is your asset allocation.
Since each type of asset responds differently to shifts in the economy and the financial markets, portfolios with a variety of holdings tend to be less volatile than those concentrated in a single type of investment. Therefore, a disciplined asset allocation approach can help improve total returns and help reduce the effects of market fluctuations on the value of your portfolio over time.
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