What is a Target Asset Allocation? Why should your asset allocation directly reflect your Investor Profile? And be unique to you? How does portfolio diversification and asset correlations fit into creating an efficient and effective asset allocation? What asset classes and subclasses make up the asset allocation?
All that and more in Episode 24 on the Wilson Wealth Management YouTube channel.
“What is a Target Asset Allocation?”
That is your planned asset allocation. On both an overall and detailed basis.
Perhaps you decide your allocation should be 70% Equity, 25% Fixed Income, and 5% Cash.
Then you may want to break that down further by asset subclasses, investment styles, etc.
“How does the Investor Profile dictate the appropriate target allocation?”
Your Investor Profile should directly drive your asset allocation.
The Profile reflects you as a unique investor. Your personal financial circumstances and expectations. Where you are in the life cycle phase. Your financial objectives and any personal constraints that may be in the way. The time horizon for those goals. Your risk tolerance. And any other factors that may impact your plan to accumulate wealth and reach your goals.
Together, they should define your Target Asset Allocation.
“Why should a Target Asset Allocation be unique to each investor?”
We just saw all the variables that go into an Investor Profile. If you look at your life and compare it with family and friends, are you all identical? Doubtful. So why should you have the same asset allocation?
Or an asset allocation determined by a “cookie-cutter” formula?
Too many asset allocations are overly simplistic. At one point, it was common practice to recommend that investors subtract their current age from 100 and that is the equity allocation. Another one tends to be a standard 60% Equity, 40% Fixed Income balanced portfolio approach until retirement. Today, there are many Target Date Retirement funds that also use a general formula (often 80% equities until approaching the target date, then they begin to rebalance down).
If you are 30 years old, a formula may tell you, 60, 70, or 80% in equities. In some sense, I get it.
But that fixates on your retirement time horizon.
What if you are 30, recently married, with a new child? Maybe you want to purchase a bigger home in a year or two. Set up an education savings plan for your child to go to post-secondary school. How you invest for near and mid-term financial objectives is not the same as with a 40 year time horizon.
Your asset allocation should reflect your unique situation. Not a “one size fits all approach.”
“How does portfolio diversification fit into creating an efficient and effective asset allocation?”
Creating a well-diversified portfolio is extremely important.
We have discussed diversification previously as a key investment concept. If you want a refresher, please refer to, “Introduction to Diversification” and “A Little More on Diversification”.
The key to effectiveness and efficiency lies in the correlation coefficients that exist between portfolio holdings. That is the way investors manage investment risk.
For more information on asset correlations, please read, “Diversification and Asset Correlations”, “Asset Correlations in Action”, and “Inter-Asset Correlations”.
And do not forget that asset correlations, and resulting portfolio efficiency, can change over time. As discussed in, “Shifting Diversification Benefits”.
Finally, if you prefer listening to reading, please check out the related YouTube videos: “Episode 16: What is Diversification?”, “Episode 17: Asset Correlations”, and “Episode 18: Correlation Obsession”.
“What asset classes and subclasses typically make up a target asset allocation?”
We discuss a bit more on the core asset classes: Cash and Cash Equivalents, Fixed Income, and Equity.
We did a general overview of this section in “Episode 23: Asset Classes”. On this page, there are links to the intricacies within each of these core classes.
In Episode 24, we touch more on asset subclasses considerations. Also, whether you might need alternative assets classes for added diversification benefits in the portfolio.
