Reviewed by Feb 19, 2021| Updated on
Asset allocation is a strategy in investments that intends to balance the risk and rewards by allocating a portfolio’s capital assets as per the individual’s risk profile, goals, and investment horizon. The three primary asset classes are fixed income, cash and its equivalents, and equities.
All three of these have different levels of return and risk and, hence, will perform uniquely. It is for this reason that individuals should thoroughly understand each instrument before deciding to invest in it.
There is no straightforward formula to calculate the right asset allocation for all individuals. Nevertheless, the accord amongst the majority of the professionals in the finance world is that the asset allocation is one of the critical choices that investors should make.
In simple words, the choice of individual assets and securities is subordinate to the way in which the assets are allocated in bonds, stocks, and cash. These are going to be the primary determinants of the investment results.
Investors can resort to different asset allocations for different requirements. For someone who is saving up their money to buy a house in the next few years, it is apt to do so by investing in safer options such as bonds, certificates of deposit, and so on.
Another individual who is saving for his retirement from the early years of their professional life can start off, initially, by investing in stocks and then slowly shifting to safer instruments as the retirement approaches. This schedule works because the investments in stocks need a good amount of time to yield good returns and will give an investor all the time in the world to beat the market fluctuations.
However, not every individual may follow this, as each individual will have their own requirements and risk profile. It is important that individuals consider various factors before deciding on any given investment strategy.