What is Asset Allocation?
Asset allocation is how you divide your investments among different asset classes (stocks, bonds, cash). It's the most important factor in your portfolio's risk and return profile.
Studies show that asset allocation accounts for over 90% of portfolio return variability over time — more than individual stock picking or market timing.
The Age-Based Rule
A classic rule of thumb is: 110 - your age = stock allocation %
| Age | Stocks | Bonds | Rationale |
|---|---|---|---|
| 25 | 85% | 15% | Long time horizon, can handle volatility |
| 35 | 75% | 25% | Still decades to recover from downturns |
| 45 | 65% | 35% | Begin shifting toward stability |
| 55 | 55% | 45% | Approaching retirement, reduce risk |
| 65 | 45% | 55% | Preservation becomes more important |
It's Just a Guideline
Risk Tolerance Profiles
| Profile | Stocks | Bonds | Best For |
|---|---|---|---|
| Aggressive | 90% | 10% | Young, high income, long horizon |
| Growth | 80% | 20% | Building wealth, 20+ year horizon |
| Moderate | 60% | 40% | Balanced approach, most investors |
| Conservative | 40% | 60% | Near retirement, risk-averse |
| Income | 20% | 80% | In retirement, capital preservation |
Stocks: Growth Engine
Stocks provide growth but come with volatility. Diversify within stocks:
- US Large Cap (50-60%) — Stable foundation (S&P 500)
- US Small/Mid Cap (10-20%) — Higher growth potential
- International Developed (15-25%) — Europe, Japan diversity
- Emerging Markets (5-10%) — Higher risk/reward
Keep It Simple
Bonds: Stability Anchor
Bonds provide income and reduce portfolio volatility:
- US Total Bond (50-60%) — Core holding
- TIPS (20-30%) — Inflation protection
- International Bonds (10-20%) — Currency diversification
- Short-Term Bonds — Lower risk, less interest rate sensitivity
Rising Interest Rates
Rebalancing
Rebalancing means returning your portfolio to target allocations when it drifts. Methods:
- Calendar-based: Rebalance quarterly or annually
- Threshold-based: Rebalance when allocation is 5%+ off target
- Contribution-based: Direct new money to underweight assets
Tax-Efficient Rebalancing
Common Portfolio Models
| Model | Allocation | Famous For |
|---|---|---|
| 60/40 | 60% stocks / 40% bonds | Classic balanced portfolio |
| Bogleheads Three-Fund | Total US, Total Intl, Total Bond | Simple, low-cost |
| Permanent Portfolio | 25% each: stocks, bonds, gold, cash | All-weather approach |
| Target Date Fund | Automatically adjusts with age | Set-it-and-forget-it |
Frequently Asked Questions
Q: Should I include international stocks?
A: Yes. International diversification reduces risk since different markets don't move together. 20-40% international is common.
Q: What about real estate (REITs)?
A: REITs can be part of your stock allocation (5-10%). They provide income and diversification. Many total stock funds already include REITs.
Q: Do I need gold or commodities?
A: Optional. Some investors hold 5-10% for inflation protection and crisis hedging, but it's not essential.
Q: How often should I rebalance?
A: Annually is usually sufficient. More frequent rebalancing has diminishing returns and may increase taxes/costs.
Q: What if I can't stomach stock volatility?
A: Choose a more conservative allocation you can stick with. A 60/40 you hold is better than 90/10 you panic-sell.
Q: Should my 401(k) and IRA have the same allocation?
A: You can view them as one portfolio. Many investors hold bonds in tax-advantaged accounts and stocks in taxable for tax efficiency.
Glide Path to Retirement
Your allocation should become more conservative as you approach retirement:
- 20+ years out: Aggressive (80-90% stocks)
- 10-20 years out: Growth (70-80% stocks)
- 5-10 years out: Moderate (60% stocks)
- 0-5 years out: Conservative (40-50% stocks)
- In retirement: Income-focused (30-40% stocks)
Target Date Funds
Asset allocation depends on individual circumstances, goals, and risk tolerance. This calculator provides general guidance. Past returns do not guarantee future performance. Consider consulting a financial advisor.