It’s a fact of investing life that market conditions change over time and some investments will outperform others. So how can you manage your risks in the face of such changes? Consider asset allocation.
With investment allocation, you distribute your assets among the three major asset classes:
- Cash equivalents
Because each type of investment reacts differently to market changes, asset allocation may help you manage risk. If the value of one drops, others may rise or hold steady to help offset the losses.
Balancing your potential risks and rewards
You can also spread your money across various investment options within a particular asset class. For example, investing in both large and small companies in the stock market. If the value of one drops, others may rise or hold steady to help offset the losses.
Spreading your wealth out across a variety of investments within each major asset class is known as portfolio diversification. You may have some diversification if you own mutual funds, variable annuities and variable life insurance products because they’re often made up of shares of stocks, bonds or cash equivalents.
Match your investment strategy to your situation
Your investment strategy should be consistent with how you like to invest (your investor profile). It also should be consistent with how much time you have until you want to reach your goal (your time horizon).
Your age, risk tolerance and other retirement assets determine your investor profile:
- Conservative. If you're a more conservative investor and have a shorter time to invest, you might consider diversifying your money among less aggressive investments like conservative bonds and cash equivalents.
- Moderate. If you’re a moderate investor, you might place a higher percentage of your portfolio in stock or stock funds. The rest of your portfolio might be made up of bonds, bond funds or other fixed income investments. You’d also be invested in different segments of the equity market, ranging from large companies to small companies or domestic to international.
- Aggressive. The more aggressive an investor you are, and the longer you can leave your money invested, the more you might consider diversifying your investments among more volatile investments like stocks.
What investment strategy is right for your situation? Your investment professional can help you decide how to mix asset classes based on the amount of risk you're comfortable with, as well as your financial target.
Review your investment mix regularly
It’s worth the time to evaluate your investments and financial goals on a regular basis with your investment professional. Your needs and goals may change over time. When you’re close to reaching a major financial goal, such as helping to put a child through college, you may want to adjust your allocation to reflect the change.
Using diversification and asset allocation as part of an overall investment strategy does not assure a profit or guarantee against loss in a declining market. Investing involves market risk, including possible loss of principal, and there is no guarantee that investment objectives will be achieved.