Why Asset Allocation Makes Me Money

A strong portfolio is a diverse one, which is why most investors extol the virtue of asset allocation. Asset allocation is one way to diversify your portfolio, by choosing various asset classes (stocks, bonds, and money market instruments) that are expected to yield positive and negative at different times, spreading the amount of risk evenly among your portfolio and lowering the risk for losses that often comes with volatile and declining markets.

A highly diverse portfolio is one with various stocks that are not closely related to each other. In business terms this refers to investments with low correlations to one another—that is, any two investments which move in different directions at different times to each other. Most investors usually target investments with very little or negative correlations to include in their portfolio. A highly diverse portfolio equates to a lower portfolio risk, with which you can anticipate higher returns. The benefits of asset allocation can be compounded if you include other types of assets such as real estate, commodities and currency into your portfolio, diversifying your portfolio even more.

The advantages of asset allocation can perhaps be best seen in the light of today’s volatile markets, where one stock can be hot one day and cold the next. With a diversified portfolio as a result of smart asset allocation, you are placing yourself at a better position to seize the opportunity when stocks are high, and you are spreading the risk over your investments, effectively lowering the overall risk to your portfolio when the market is down.