JohnBlog

Lend me your mind's ear — communications and portals

Asset allocation: Diversification is king

with one comment

The king and you

Invest in different asset classes, across geographies, sectors and styles, and the impact of any one investment on your portfolio is diminished. Most investors, especially new investors, worry about poor performance but forget about the importance of diversification.

For example, if your only investment is your house, then you’re not very diversified. Ask anyone who was overloaded in U.S. residential real estate about how lack of diversification can negatively affect your portfolio.

These days diversifying is easier than ever. You can invest in real estate, international stock and bond markets, emerging markets and commodities. You don’t have to simply depend on domestic stock and bond markets as much as investors once did.

But what is important is considering the risk/reward features of these asset classes. You don’t want to invest too little or too much in any one asset.

The challenge of asset selection

The number of investments available today is truly staggering. Individual stocks and bonds, mutual funds, ETFs and managed accounts are only a few of the types of investment options. If you want to manage risk well, you have to evaluate how each investment will impact your portfolio.

Benchmark indices help financial professionals gauge the performance of their assets under management. Some investments are designed to very nearly track these indices. Many exchange-traded funds seek to offer investors nearly the same performance as indices.

Individual securities or actively managed funds hold out the potential to outperform the indices they are based on. However, these investments rarely do outperform. And they often carry higher risk and higher management fees that are a detriment to an investor’s overall portfolio depending on the extent of an investors understanding of markets, and the level of advice she may need.

Determining the level of risk you are comfortable with is crucial. Mixing index and active investments into your portfolio will benefit you when it comes to the end result of achieving your objectives.

Rebalancing

Rebalancing your investments is key. Periodically, investors should review their portfolios and re-assess their investments and long-term goals. Often, this requires selling your best-performing investments along with the discipline to execute your plan.

“Buy low and sell high” may be the mantra investors want to follow, but for many, it’s easier said than done. Risk management best practices suggest that an investor must pay just as much attention to selling high as buying low. Getting overly greedy after a good run in the markets is dangerous to your portfolio.

By rebalancing, you can stay on track. Proper asset allocation helps you stick to your risk/return objectives. Although this sounds easy on paper, it’s not. Systematizing the rebalancing process is one of the most important processes of a sound investment plan.

Advertisements

One Response

Subscribe to comments with RSS.

  1. I have a web site where I cover stocks and exchange traded funds under ten dollars I would like to comment about the article diversification is king. this is a very important concept about investing spreading your assets across a wide array of different categories is key to accmulating wealth over time.

    james moylan

    January 7, 2011 at 7:07 pm


Leave a Reply

Fill in your details below or click an icon to log in:

WordPress.com Logo

You are commenting using your WordPress.com account. Log Out / Change )

Twitter picture

You are commenting using your Twitter account. Log Out / Change )

Facebook photo

You are commenting using your Facebook account. Log Out / Change )

Google+ photo

You are commenting using your Google+ account. Log Out / Change )

Connecting to %s

%d bloggers like this: