Howdy Wall St. Willy! Sometime ago, when you talked to me about asset classes, you mentioned asset allocation. But what is asset allocation anyway?
Asset allocation is deciding how much of your money to invest in different asset classes.
But why do I even need asset allocation?
You need asset allocation to achieve diversification so that you reduce your risk of losing money and decrease the fluctuations in the return that you get.
So, is asset allocation like putting $1000 in stocks, $500 in fixed income and so on?
Asset allocation is usually expressed as a percentage of your total investments.
Asset Allocation: Percentage invested in each Asset Class, adding up to 100%
So, for example, your asset allocation could be 75% in stocks and 25% in fixed income.
But, how is asset allocation decided?
It varies from person to person and depends on factors like your age, how much you save, your risk tolerance etc.
But is the asset allocation the same for everyone and what asset allocation is right for me?
It depends on your specific situation. But generally speaking, the younger you are, the higher your allocation to stocks should be. And as you grow older your allocation to fixed income should increase.
A general rule of thumb is your investment in equities should be 100% minus your age.
Rule of Thumb: Allocation to Equities or Stocks = 100 – Your Age
So, if you are 30 years old, your allocation should be 100% – 30, which is 70%.
So, does that mean I have to keep changing my asset allocation?
Yes, you do need to change your asset allocation if your personal and financial circumstances change. Say, you get a promotion or you have a kid.
You also have to change your asset allocation with age.
But, what happens to my asset allocation if one of my assets gains or loses too much?
In that case, you would need to rebalance your portfolio, but that’s a topic for another time.
Thank you very much for telling me about asset allocation, Wall St. Willy.
You are welcome, Sooper Cooper. Remember, Finance is Your Friend!