Financial Insights
The Power of Asset Allocation
Studies have concluded that 90% of a portfolio’s performance is based upon the allocation of the
portfolio among the three basic asset classes of cash, bonds and stocks1— it’s called asset allocation.2
Asset allocation is often described as “not putting all your eggs in one basket.” If you drop the basket,
you run the risk of breaking all your eggs. To avoid that, you put a few eggs in several baskets; then if
you drop one, you still have other eggs in other baskets. But, how many eggs do you put in each basket?
That depends upon your financial goals, how long you have to achieve those goals and how you feel
about risk.
Cash. Eachof the asset classes has a different potential for
risk and return. A cash account maintained at a bank,
(FDIC insured up to $250,000 per account until
December 31, 2013, then insured up to $100,000),
including savings accounts, certificates of deposit and
money market accounts, generally has lower returns than
stocks or bonds. However, with cash, your principal (the
original amount of money you invested) is usually stable
or preserved or even guaranteed by the federal
government—comparatively, the risk is low that you will
lose your principal.
Bonds. A bond is is an IOU from the bond issuer—
usually a corporation or government. When you buy a
bond, you are lending money, and the bond issuer
promises to repay you on a certain date. Until that date,
you receive regular interest payments. Historically,
bonds tend to grow more slowly and steadily than stocks,
and they usually offer lower returns. Bonds often react in
direct opposition to stocks—when stocks are up, bonds
are down and vice versa. Bonds tend to be less risky than
stocks. The prices of these securities may fluctuate due to
the interest rate changes, and investors may lose money
if their bonds are sold before maturity.
Stocks. When you buy a stock, you become part owner
in the company, which means you share in its profits and
losses. There are several categories of stocks, based on
their market capitalization, which measures a company’s
size by multiplying the number of shares outstanding by
the stock’s current price. There are large, mid3-and smallcap4 stocks. Large-cap stocks are usually well established
companies, often called “blue-chip” companies. Mid-cap
companies tend to be established, yet are smaller than
large-cap companies and thus have the potential for
continued growth. Small-cap stocks may be cutting-edge
companies with the potential for rapid growth. There
also are international stocks5, which are issued by
companies outside of the United States. Of all the asset
classes, stocks have the potential for the highest returns,
over the long-term. However, comparatively, stocks tend
to be the riskiest investment as well.
Manage risk. Historically, each asset class has reacted
differently to economic conditions. When one asset class
is doing well, another one will typically not be doing as
well. By putting some money in each class, it may help to
reduce the risk of losing all of your money.
Asset allocation questions. To help determine the
asset allocation that is appropriate for you, answer each
of these questions:
1. What are your financial goals? They may be buying a
new house, paying for college or having a secure
retirement. You’ll need to determine the amount of
money it will take to reach each goal.
2. By when do you need your money? Short-term goals
are usually five years or less. Intermediate-term goals
are 5-10 years, and long-term goals are 10 years or
more down the road.
3. What is your risk tolerance? How comfortable are you
with the potential to lose your money?
How much money you put in each asset class is based
on your answers to all of these questions. For example,
if you are uncomfortable with risk and have a shortterm goal, you may want to put more of your money in
cash and bonds rather than the more risky stocks. If you
don’t mind taking a little risk to get a potentially larger
return, and you have a long-term goal, you may want to
consider putting more of your money in stocks rather
than cash or bonds.
Mixing it up. By mixing up your money among the
classes, you’ll not only help balance your risk, but may
also help to increase your potential returns—that’s the
power of asset allocation.
1
United States Securities and Exchange Commission, “Beginners' Guide to Asset Allocation, Diversification, and Rebalancing”.
www.sec.gov, modified August 28, 2009.
2
No asset allocation strategy can guarantee a profit or protect against a loss. While diversification through an asset allocation strategy is a
useful technique that can help to manage overall portfolio risk and volatility, there is no certainty or assurance that a diversified portfolio
will enhance overall return or outperform one that is not diversified.
3
The common stocks of medium-sized companies may be more volatile than those of larger, more established companies.
4
Investments in small capitalization and emerging growth companies involve greater than average risk. Such securities may have limited
marketability and the issuer may have limited product lines, markets and financial resources. The value of such investments may fluctuate
more widely than investments in larger, more established companies.
5
International stocks contain additional risk not associated with U.S. domestic issues, such as changes in currency exchange rates, different
government regulations, economic conditions and accounting standards.
This article was prepared by NewKirk for the use of the sender with permission from the publisher and is provided to you by MetLife
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such matter covered in this publication.
While diversification through an asset allocation strategy is a useful technique that can help to manage overall portfolio risk and volatility,
there is no certainty or assurance that a diversified portfolio will enhance overall portfolio return or outperform one that is not diversified.
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