“Asset allocation” is sometimes viewed as a magic formula for investing. It’s not magic, but it does involve math. It is simply the process of building a portfolio out of a specific combination of assets —equities (stocks), fixed-income investments (bonds), cash — with the goal of achieving an optimal risk/return profile.
Think of asset allocation as the practical implementation of diversification, which itself is a strategy to reduce risk. The proportion allocated to one asset type or another will look different for different investors, depending on each person’s risk and return objectives, time horizons and unique constraints. But in general, asset allocation considers historical data (like market volatility) and other inputs such as interest rates, current fiscal policy and economic principles. These can have different impacts across asset classes, and the resulting portfolio will entirely depend on the inputs (assumptions) used.
A key benefit of asset allocation is that it forces discipline. Periodically reviewing the allocation in your portfolio — such as a 401(k) account — and rebalancing if needed can help you to meet your long-term financial goals (and sleep at night).
There is a familiar saying, which Yogi Berra is said to have quipped, “Making predictions is hard, especially about the future.” It is challenging to forecast expected returns, given uncertainty and all the variables at play. Yet it’s important to make the best decisions we can as investors, based on the information we have.
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DOUGLAS RILEY, CFA, is the lead portfolio manager for Knights of Columbus Asset Advisors’ Large Cap Core equity strategies and chair of the firm’s Asset Allocation Committee.








