Asset Allocation Is Not Dead

By Julia Curbo, Portfolios 101

A February article in the Wall Street Journal discussed the end of asset allocation. In the interim, of course, many undiversified investors have gotten a rude awakening.

The cornerstone of Modern Portfolio Theory, asset allocation is the strategy of dividing up your assets based on a tradeoff of risk and return. The central theme is that based on your own personality, objective, and constraints, you should try to maximize your return for a given level of risk (or minimize your risk for a given return).

As described in the article, investors frequently move away from this method in order to concentrate on higher-return investments. One financial advisor related a story of a client calling to ask why he wasn't doing as well as his son (his son had made 57% last year while the client had only made 20%). The financial advisor had to throw his hands up in disgust. What made it is worse was that the financial advisor had to talk the father into investing in a balanced portfolio to begin with. Originally, the father had only wanted to invest in bonds. Now, he's complaining about only making 20%! Another story in the article described how an individual increasingly was moving money away from his financial advisor to himself so he could manage it and generate higher returns.

What has caused asset allocation to fall from grace is this incredible bull market. With returns of large capitalization, growth stocks (i.e., technology) doing so well, many investors have believed they could achieve better results by concentrating their investments in this category. Over the last few years, this strategy has proved very successful. However, you must consider the risk that's being undertaken. Asset allocation may not provide you with stratospheric returns, but it should lower your risk.
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