Making wise asset allocations
Recently, the stock market is reaching record highs, causing lots of publicity and generating great enthusiasm. Of course I don’t know what the stock market will be doing by the time this is published – things can change in a hurry.
These days most people are investors. Even people with modest incomes often have retirement investments through their employers. As the stock market goes up and down, investors with little experience or confidence may wonder what to do. They may react to the ups and downs by changing their investment choices in accordance with the “mood” of the stock market.
Investing by “mood” or reacting to the economic climate of the week is always a mistake. All investors – even those of modest means – will do better to take a big picture approach to asset allocation.
Asset allocation means making conscious decisions about how much of your portfolio you will invest in different types of investments. These decisions are made with the big picture in mind, considering your investment time frame (short-term, long-term) and your personal tolerance for risk.
Example: a 25-year-old with a moderate tolerance for volatility might allocate his/her retirement portfolio like this: 70 percent to stocks, 25 percent to bonds, and 5 percent to cash. (note: this is not a prescription – it’s just an example!) If the stock market goes down, should that individual change his/her asset allocation? Definitely not.
Asset allocation decisions that are made with care are not likely to change from year to year. They may change over the decades; for example, by the time the individual above is 50 they might have reduced their stock allocation. Those types of gradual adjustments reflect a changing time frame, and can even be planned in advance.
There may be cases where it is appropriate for an investor’s asset allocation to change significantly in a short period of time, but this is not common. Typically it results from a significant change in a person’s financial situation. Examples might include a health event that dramatically affects one’s goals or timeline, or a significant change in income (such as career change or a marriage).
In the absence of significant changes in situation, however, it is generally a mistake for investors to change their asset allocation frequently. That can dramatically reduce investment yields, since people who react to market events often end up buying high and/or selling low. Frequent changes also result in high expenses via sales charges and transaction fees.
Regardless of what the stock market is doing any given week, hold steady to your initial intentions for allocating your assets. For more information: at www.extension.org you’ll find a wide range of resources on investing. You’ll also find information and tools on personal finance at www.extension.iastate.edu/finances, or by contacting me through the Webster County ISU Extension office, 576-2119, or directly at 832-9597 or firstname.lastname@example.org.