Asset Allocation

After understanding what to invest in, investing strategies, and investment mediums, an individual must decide their particular asset allocation, or the percentage of money they will distribute to each particular investment, from bonds to stocks. Since all individuals have varying degrees of risk tolerance, income level, age, and other factors, asset allocation is solely dependent on personal preference.

Firstly, an individual who has started investing early in life will logically have a high risk tolerance, especially when compared to someone near retirement. For example, an individual may be a twenty year-old student without a family to provide for. Despite the temptations for higher-risk trading like stop-loss or options, the core of this individual’s portfolio may be index fund ETFs. Since we have discussed the dangers of attempting to beat the market, we understand that taking a contrary approach often results in losses. A portfolio with at least 50% ETFs, such as VOO, will reliably – according to historical data – provide this individual with returns of around ten percent per year until their retirement. With the remaining 50%, they may choose to invest 30% into individual stocks and 20% into a variety of other investment types, such as cryptocurrency or international, emerging investments. 

Secondly, another individual may be within a year of retirement, leaving a significantly less amount of time for mistakes, decreasing their risk tolerance. At this point, however, the individual has invested passively for decades, leaving them with an adequate amount of retirement. At this stage, it is recommended that their portfolio be primarily made up of bonds, for these assets are the safest and will not be affected by significant market crashes. If their portfolio were still made up of index funds, they would be at risk for a huge loss that could potentially not allow them to recover for years. According to historical S&P 500 data, if an individual were to hold a significant amount of S&P 500 index funds at the peak of the Dotcom Bubble in 2000, between this crash and the 2008 crash their assets would not reach their initial value for another 13-14 years. When one is months from retirement, this is a scenario critical to avoid. 

Although the previous individual near retirement actively invested for decades, there are a growing number of individuals who do not have any money invested near retirement – this naturally creates the need to engage in risky behavior to make up for decades of lost compounding. Despite this, it is not recommended that an individual engage in risky behavior, especially if their risk tolerance is low. Ultimately, however, we can't cover scenarios for all individuals – there are a multitude of factors that drive each individual’s personal asset allocation.