Asset Allocation is a phrase that you’ve probably heard if you’ve considered any sort of financial planning or have done some investment research on your own. To put it simply, it is the mix of assets that make up your investment portfolio. To take it down one level further, it can be looked at as the mix of “growth” assets vs “safer” assets in your portfolio. One example of growth assets are stocks, which have the ability to appreciate in value, especially in the long term. A few simple examples of safer assets are things like bonds and cash. These are typically meant to maintain a more stable value over time.
Most financial professionals would recommend that every investor have some mix (diversification) of both of these categories of assets in their portfolios for multiple reasons. One is that sometimes, these different categories behave differently from each other (ie. When stocks go down in value, historically bonds and cash have stayed even or even increased in value). Generally speaking, the larger percentage of your portfolio that contains growth assets, the more aggressive it is. In contrast, the larger the percentage of safer assets in your portfolio, the more conservative it is considered to be.
What is the right asset allocation for you? You should consult with a professional who could help you determine what makes sense depending on your goals, risk tolerance and specific circumstances. However, there are a few general things to think about. First, people who are earlier in their lives saving for retirement or other goals far in future (say 10-20+ years) might have a more aggressive asset allocation. These people are often able to withstand the large and sometimes uncomfortable swings that stocks can provide over short periods of time because in the long-term, stocks have historically shown strong growth. People who are a little closer to the end of their careers or perhaps have a financial goal that is in the near term (say 1-5 years away) might have a less aggressive asset allocation. There are others factors to consider as well, but this is a decent starting point on how to think about asset allocation in your portfolio.
Asset allocation and diversification do not assure or guarantee better performance and cannot eliminate the risk of investment loss. As with any investment strategy, there is the possibility of profitability as well as loss.