“Everything in life… has to have balance.”
—Donna Karan
Asset Allocation Vs. Diversification
Asset allocation refers to investing in different asset classes. Typical financial advice tells us that the common asset classes (where you should put your money) are: 1) stocks, 2) bonds, and 3) cash. Typical advice tells us that stocks are best for long-term growth and that is where most people should have most of their money. We are told that bonds provide adequate balance to the risk of stocks and that the older you are, the more you may want to have in bonds versus stocks. Lastly, typical advice tells us that cash vehicles such as savings accounts, money market funds and bank CDs should make up the remaining (very small) balance of your assets.
Of course, there are big problems with this limited asset class model. Bonds are no longer the safe haven they once were. Stocks aren’t the only valid or the safest growth strategy. Most cash options haven’t been performing well, and represent too small a portion of most portfolios to provide any real safety. And the options are simply too few and narrow.
Typical advice does little to actually help you achieve balance and stability! Those following this model ten years ago suffered huge losses during the Financial Crisis and spent years recovering. Even the age-based or target-date funds—supposedly designed to SOLVE asset allocation problems for investors—completely failed, so beware popular financial “wisdom.”
Diversification refers to how to diversify the options WITHIN a particular class, especially stocks. Without diversification, asset allocation could look like this:
- a million dollars of stock in a growing, forward thinking company. (Enron, anyone?)
- some “safe” municipal bonds, perhaps in a classic US city (like Detroit).
- cash in a bank account that’s depleted through inflation or even threatened by an asset forfeiture scandal
- a million-dollar property (perhaps in an area subject to hurricanes or forest fires).
Diversification in the stock market spreads risk among different funds, stocks, industries, and companies of different sizes and locations. True diversification is when a portion of your assets isn’t correlated to the stock market. Some things to consider:
- real estate, such as rental properties, commercial buildings, bridge loans
- cash equivalents, using more than one savings institution for short-term cash and cash value in specially designed whole life policies.
- fixed and fixed index annuities
Get the Facts, Explore your options
Give us a call at 574-234-1980 or contact us at NeeserInsurance.com – we are here and happy to help you achieve financial freedom.
