If you live in or have visited a big city, you’ve probably run into street vendors – people who sell everything from hot dogs to umbrellas – on the streets and sidewalks. Many of these entrepreneurs sell completely unrelated products, such as coffee and ice cream.
At first glance, this approach seems a bit odd, but it turns out to be quite clever. When the weather is cold, it’s easier to sell hot cups of coffee. When the weather is hot, it’s easier to sell ice cream. By selling both, vendors reduce the risk of losing money on any given day.
Diversifying Your Assets
Asset allocation applies this same concept to managing investment risk. Under this approach, investors divide their money among different asset classes, such as stocks, bonds, and cash alternatives, like money market accounts. These asset classes have different risk profiles and potential returns.
The idea behind asset allocation is to offset any losses from one class with potential gains in another, and thus, reduce the overall risk of the portfolio. It’s important to remember that asset allocation is an approach to help manage investment risk. It does not guarantee against investment loss.
Determining the Most Appropriate Mix
The most appropriate asset allocation will depend on an individual’s situation. Among other considerations, it may be determined by two broad factors.
Time. Investors with longer timeframes may be comfortable with investments that offer higher potential returns but also carry a higher risk. A longer timeframe may allow individuals to ride out the market’s ups and downs. An investor with a shorter timeframe may need to consider market volatility when evaluating various investment choices.
Risk tolerance. An investor with higher risk tolerance may be more willing to accept greater market volatility in the pursuit of potential returns. An investor with a lower risk tolerance may be willing to forgo some potential return in favor of investments that attempt to limit price swings.
Asset allocation is a critical building block of investment portfolio creation. Having a strong knowledge of the concept may help you when considering which investments may be appropriate for your long-term strategy. If you’re looking for professional guidance on how to best allocate your assets, sign up with us for a complimentary review of your finances today.
The information presented here is for informational purposes only, is not to be interpreted as investment, legal, or tax advice, and does not indicate suitability for any particular investor. Please consult the appropriate professional regarding your unique circumstances.
Although asset allocation among different asset categories generally limits risk and exposure to any one category, the risk remains that management may favor an asset category that performs poorly relative to the other asset categories. Other risks include general economic risk, geopolitical risk, commodity-price volatility, counter-party and settlement risk, currency risk, derivatives risk, emerging markets risk, foreign securities risk, high-yield bond exposure, non-investment-grade bond exposure commonly known as “junk bonds,” index investing risk, industry concentration risk, leveraging risk, market risk, prepayment risk, liquidity risk, real estate investment risk, sector risk, short sales risk, temporary defensive positions, and large cash positions.
Diversification does not guarantee a profit or protect against a loss in a declining market. It is a method used to help manage investment risk.
Investments in securities are not suitable for all investors. Investments in any security may involve a high degree of risk and should only be considered by investors who can withstand the loss of their investment. Prospective investors should perform their own due diligence carefully and review the “Risk Factors” section of any prospectus, private placement memorandum, or offering circular before considering any investment.
Advisory services offered through Asset Strategy Advisors, LLC. (ASA). Securities offered through representatives licensed with Concorde Investment Services, LLC (CIS), member FINRA/SIPC. Insurance offered through Asset Strategy Financial Group, Inc. (ASFG). ASFG and ASA are independent of CIS and are separate companies.
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