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Asset allocation reduces volatility |
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Bonds, too,
have specialized areas. They are characterized
according to risk, issuer, maturity or geographic
origin. These subcategories include investment
grade, junk (high yield), government, mortgage-backed,
corporate, short-term, intermediate, long-term,
domestic, foreign and emerging markets bonds.
Generally, bonds offer higher returns than
cash equivalents, but carry more risk.
Cash is considered
the safest form of investment, but offers
the lowest return. Cash-equivalent investments
are Treasury bills, money market funds,
money market accounts, savings accounts,
certificates of deposit, etc.
Real estate, as in real property, has its own market cycles and often performs in direct opposition to the stock market.
REITs are
publicly traded stocks of companies that
own and manage multiple income properties
on behalf of their investors. They are traded
like stocks, but are composed of real estate
holdings, so they rise and fall in tandem
with the real estate market.
The sophisticated may invest
in more esoteric assets such as natural resources
(timber, oil), precious metals (gold and silver)
or luxury collectables (art, fine wine, coins,
automobiles), but these often require special
knowledge or expertise. We'll focus on mainstream
asset categories.
Goals, time, risk tolerance
When deciding how to allocate your money,
you should know your retirement goals, time
horizon, how much you can annually save toward
your goal and how much risk you are willing
to assume. Risk tolerance is all about your
ability and willingness to lose all or some
of your initial investment in the expectation
of a higher return.
Walt Woerheide, a certified
financial planner and a professor of investments
at the American College, says risk tolerance
depends on the individual, but education can
make a big difference. "People can tolerate
risk better when they understand the nature
of risk," he says. "For example,
people who understand how a parachute opens
and the mechanics are more willing to go sky
diving than someone for whom it is kind of
a mystery about how the chute will open up."
For that reason, it's a good idea to avail yourself of any educational opportunities your company may provide -- seminars, teleconferences, informative Web sites -- that can help you bone up on asset allocation.
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| Asset allocation |
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All portfolios, however, should
reflect the basic tenet for savers to "invest
and stay well diversified," says Ellen
Rinaldi, Vanguard's director of investment
counseling and research.
Common mistakes
Not managing asset allocation wisely can cause you to delay retirement or reduce the amount you'll have to live on once you quit working. The most common mistake is being too conservative and not putting enough in stocks when you're young. "If you're overly conservative, you don't get the growth that you need," Charney says. |
