Market Decode: Balancing risk and reward with asset allocation

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Senior investment strategist Marci McGregor explains how asset allocation can help you find the right mix of stocks, bonds and cash to match your risk tolerance — especially when the markets get volatile.

Market Decode: Balancing risk and reward with asset allocation
Despite its (often) forgettable name, asset allocation is an essential concept to remember, because it directly ties the composition of your portfolio — that is, the amount of stocks, bonds and cash you hold — to your financial goals and aspirations. It also helps you factor in your investing time horizon, comfort with risk and liquidity needs, or funds for unexpected expenses.
A great way to illustrate how asset allocation works is the classic pie chart (see our graphic below). This shows the relationship between how much market risk you're comfortable with and the percentage of stocks, bonds and cash you could consider holding. A general rule of thumb: The more risk-averse you are, the more you'll want to be invested in "safer" assets, like high-quality bonds and cash. On the other hand, if you're more comfortable with risk — and you have a longer time horizon to invest — you could consider holding a greater percentage of stocks. They're more prone to short-term price swings but offer potential for greater long-term growth.
Keep in mind, asset allocation is not a one-time "set-it-and-forget-it" process. "Changes in the markets can cause your allocation to drift over time," points out Marci McGregor, senior investment strategist, Chief Investment Office, Merrill and Bank of America Private Bank, in our video above. So you might consider rebalancing your portfolio on a regular basis to ensure it reflects your current preferences for stocks, bonds and cash.
What Kind of Investor Are You? The image depicts a sample asset allocation for a more conservative investor. A pie chart shows that bonds account for 58%, cash takes up 16%, and stocks represent 26%. Source: Chief Investment Office, January 2020. The strategic allocations shown here are designed as guidelines for a 25 year investment horizon for investors for the highest level of liquidity needs.
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Strategic allocations are hypothetical and are not intended to indicate specific investment recommendations or advice. Asset allocation does not ensure a profit or protect against loss in declining markets.

Investing involves risk. There is always the potential of losing money when you invest in securities.