Asset Allocation: Part 1 - Introduction

Financial Planners seem to talk about asset allocation all the time. They recommend percentage allocations to various investments (usually different mutual funds) based on some assessment of your “risk tolerance”.

Usually you end up buying some shares in a “large cap growth” fund, a “large cap value” fund, a “small cap” fund, an “international” fund, and a “bond” fund. The percentages vary with your age and your “risk tolerance”.

Asset Allocation is kind of like parceling your eggs out into three to six different baskets, giving each basket to a different person and instructing each person to take a different route to Granny’s house. Most of the baskets will get to Granny and miraculously, each basket that arrives at Granny’s house will have more eggs at the end than it had at the beginning of the trip.

Like most people, my first exposure to asset allocation was sitting down with a Financial Planner who was armed with a “Risk Tolerance Assessment Survey” and a “Financial Goals Survey”. I filled out the surveys and several days later a “Personalized Financial Plan” was delivered to my doorstep filled with monthly saving and investing targets, asset allocation percentages for each of the recommended mutual funds, and of course, Life Insurance.

It was a decent plan and I promptly filed it away where it would not likely see daylight again for several years. My budget couldn’t be squeezed enough to do half of the Personalized Financial Plan and the guy was obviously trying to sell life insurance so I did nothing. That was a mistake.

If I had done even a little of the investing portion of the plan I would be much wealthier today - some thirty years later. But I was young, foolish, over-confident, indestructible, ambitious, and over-whelmed by the whole “asset allocation” thing – plus suffering from sticker shock.

I can’t help you with the young, foolish, over-confident, indestructible, and ambitious parts. But I can help with the “over-whelmed” part and the sticker shock part.

The Asset Allocation trick is to choose high quality baskets and to select the various routes to Granny’s house so the Wolf can’t intercept more than one of them.

In Part 2, I’ll discuss selecting the routes – that is – selecting different types of investments that are poorly or even negatively correlated.

Links to other Topics in the Special Report: Asset Allocation