In terms of investment strategies, every book that has ever been written about the subject will have at least touched on two key topics – Asset Allocation and Diversification. We’ll talk about Diversification here but in short a good investment strategy will avoid concentrating the investments in just a few assets. Rather, a good portfolio will include a number of different types of assets types, focused on different markets, with different risk profiles. The more a portfolio can be diversified, the less variable the return.
Asset allocation is a related and equally important strategy for the investor. Essentially the goal with asset association is to adjust the diversified portfolio with assets that reflect your investment goals, the state of the market, your age, your risk tolerance and a number of other factors.
We describe in the Risk versus Return Discussion that different investments have different risks and generally the more risk, the higher return expected from the asset. So, when creating a personalized portfolio for a customer, an advisor will ask you all kinds of questions to understand the factors described above (age, risk tolerance, etc) and then construct a target portfolio for you that matches your profile. Often, the top level allocation is described in terms of the % in Stocks, Bonds and Cash. For example, a young professional might have an aggressive portfolio that has 70% Stocks, 20% Bonds and 10% cash in their RRSP. If that same person came to see a Financial Planner at age 58 with the bulk of their wealth in that same RRSP and their home, a Financial Planner would definitely want to adjust the allocation to make the profile less risky since, at 65, the retiree will want to be able to count on a steady stream of income. Further, as we discuss in the risk versus return section, a correction in the stock market could be devastating for an older investor as they might not have the time for the stocks to recover before having to sell them to cover retirement expenses. Therefore, as the customer approaches retirement, the asset allocation will shift further and further to bonds and cash, perhaps leading to a mirror image of the original strategy 70% cash, 20% bonds, 10% stocks, when the customer is well into retirement.
In terms of how to create these types of portfolios, there are resources available to help you understand their concepts more fully and build your own portfolios to match your investment goals and needs during your lifetime. Of course, a Financial Advisor has experience in guiding you through these decisions either passively by providing advice or actively by making the investments for you. Another increasingly popular option is to invest in mutual funds that are designed for people of a certain age. For example, a portfolio for a 35 year old will be heavily weighted in growth stocks while one for a 55 year old will be much more conservative with cash investments and bonds. These portfolios are often targeted at your retirement year so that the fund managers can adjust the portfolios over time on your behalf to match a typical asset allocation recommendation for your age. This is a good option for someone with little time or inclination to do the research necessary to build and adjust their portfolio but it does come at a cost in terms of fees. Further, since they are just age based, they are not customized to the exact needs of the customer. A Financial Advisor can design and Asset Allocation strategy that is perfectly matched to your individual needs. Get matched with a screen advisor here.