Asset Allocation – How To Find Your Balance Between Return And Risk

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The so-called asset allocation, the division of assets between safe and risky investments, determines the future return and risk of passive portfolios. Finding the right mix is ​​not trivial, especially for inexperienced investors. Successful investing begins with setting goals. What do you want to use your future assets for? For building a house, retirement planning or a new car? Your asset structuring, the so-called asset allocation, essentially depends on the answer to this question. Experts understand this to mean the division of your investment capital between safe investments such as fixed deposits and bonds and riskier investments such as stocks and commodities. This distribution results in the possible losses and the return opportunities of a portfolio that is not actively managed.Your investment goals usually define the investment period that is available to you. The duration of the investment, in turn, has a decisive influence on the risk you can take. For example, if you can only invest your money for a few years and want at least the amount invested back at a certain point in time, you should only include a small proportion of risky securities such as stocks in your portfolio. Because their possible fluctuations in value over short periods of time are large, the risk of loss high.

The fear of loss determines your asset allocation

In addition to the investment goal and the investment period, there are other decisive factors that should determine your asset allocation: On the one hand, it is about which risks you can bear economically. For example, anyone who earns well, has a job with a future and is well protected in old age can objectively risk more when investing money. In practice, however, it is often the case that the particularly well-heeled investors invest the most conservatively. For people who already have a lot of money, the focus is often on preserving wealth and less on increasing it. In such cases, the fear of losing one’s wealth is greater than the lure of high returns.

It brings us maybe the most important parameter from which your asset allocation is derived: the fear of losses. Banks and asset managers speak of risk tolerance or risk profile – a euphemism for the panic that inexperienced investors in particular can grasp if the stock markets fall sharply over long periods of time.

Investors will only stick to their strategy with the right asset allocation

Because the greatest risk in investing money is the investor himself, the crucial question is what the asset allocation must look like so that an investor can stick to his strategy – probably the most important prerequisite for long-term investment success. In other words: how must assets be structured in order to avoid panic attacks. Financial advisors and asset managers try to elicit more or less elaborate questionnaires from their customers where the fear threshold lies. They are legally obliged to do so. However, it can confidently be doubted that the procedures used always lead to risk profiles that actually correspond to the loss tolerance of customers. Yes, this is also due to the fact that many investors do not really know themselves – and have not given enough thought to the nature of stock exchanges. So that you don’t make the wrong decision in your long-term asset allocation, there are a few facts that you should internalize as deeply as a mantra:

  1. Share prices fluctuate around their mean. In the case of diversified stock indices that track the stock market development of a country or region, it is an average of around 15 to 20 percent up and down each year. Temporary losses of more than ten percent are not uncommon.
  2. During the major stock market crashes of the past few decades, the global stock market has lost more than 50 percent. A passive balanced portfolio of 60 percent stocks and 40 percent bonds lost around 34 percent.
  3. There will always be such crashes on the stock exchanges. The good news, however, is that so far the stock markets have repeatedly recovered from falling prices and made new highs. The bad news: there are no guarantees that it will last.
  4. The catching-up process can be painfully long. After the dot-com bubble burst at the beginning of the new millennium, it took more than 13 years for the global stock market to recover from the drop in prices.

Be realistic!

So, it’s not looks like that easy to find the correct asset allocation that balances your investment goals with your risk tolerance. This endeavor is made even more difficult if investors have unrealistic ideas . For example, many want to achieve the highest possible asset growth, but are not prepared to take greater risks. But in the financial market it is hard to get high returns without major risks. The proportion of risky investments is increased or decreased depending on the market situation. Investors speculate that professional fund managers will make the right decisions. However, the vast majority of mixed funds achieve below-average returns. To be mostly correctly positioned in the market is a fine art that very few fund managers have mastered. A simple static do-it-yourself portfolio of well-diversified exchange-traded index funds (ETF) on stocks , bonds and other asset classes is usually more successful. But for this, investors have to think about which is the right asset allocation for them.

Hello, I have been working as an investment consultant and author for more than 20 years. I love what I do and I have enriched everyone around me. A lot of money is not important, the main thing is how you use the money.

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