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Asset Allocation

What is Asset Allocation?

Your asset allocation is how your money is divided among different asset classes and investment types, such as stocks, bonds, real estate, commodities, alternatives, and cash.

Adjusting your asset allocation is a way to optimize your portfolio’s risk/reward tradeoff. Allocating a greater portion of your money toward riskier assets like stocks generally leads to a higher expected long-term return, but there’s a bigger risk of losing money in the short term. On the other hand, allocating a greater portion of your money to safer assets like bonds and cash means you won’t encounter as much price volatility in the near term, but you can expect that your long-term returns will be lower.

Modern portfolio theory proposes that investors can optimize their portfolio's risk/return by selecting combinations of investments and asset classes that are not perfectly positively correlated (as measured by correlation coefficient). Such a combination of assets is likely to do reasonably well in a variety of different environments, because as one asset is falling, another is likely rising.

The ideal asset allocation is the mix of assets that isn’t too volatile for your comfort, but is aggressive enough to give you a good chance of reaching your goal.

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