What is Asset Allocation?

Understanding the principals of asset allocation is the very first step to building a proficient portfolio. So what is asset allocation? Asset allocation is simply the act, or art, of separating your portfolio into different asset classes. For instance, if you wanted your portfolio to contain some large cap stock you could simply decide 10% of your portfolio is going to track the S&P 500. Honestly, it is that simple. The hard part is deciding what asset classes to include, how big of a percentage you should allocate to each asset, and you’re rebalancing strategy.

An asset allocation plan allows you to put your investments on autopilot. It will allow the creation of a portfolio which only has to be checked and modified rarely. The reason behind this is your portfolio will contain a portion of the entire market. When one portion of the market does well your asset allocation will capture it. Upon rebalancing you will end up selling the market segment that did well and purchasing the asset classes that where not as lucky. This will result in you automatically buying low and selling high. An art most financial managers and investment advisors will never master.

Designating what asset classes your portfolio should include and their respective percentages is not that difficult. It is simply a matter of understanding how they react and what your objectives for your investments are. For instance, if you are very close to retirement it is likely that your portfolio would contain more bonds than a young investor. On the other hand you may be comfortable holding a portfolio that will have a higher volatility and possibly higher returns.

Many people find it hard to develop an asset allocation without some example portfolios. Taking this in mind we have developed some sample asset allocations. Go ahead and take a look at them and perhaps you will get a better idea of what asset allocation is.