Investology

Myths About Asset Allocation

Asset allocation is considered as a good way of trying to reduce or minimize risks associated with investing. It is also an option you can consider to improve profit earnings. More commonly known as diversification, asset allocation aims to strike up a balance between risk and reward. The main objective is to spread investments in a variety of asset classes that can provide the most profit for least possible risk. An effective tool used by investors, there are also certain myths associated with asset allocation that can mislead some less experienced investors. Here are some of them:

Myth 1: Diversification protects you from down trends.

Asset allocation may help lessen relative risks of your investments, but it isn’t in any way a means to protect your investments from potential losses. All investments are still subject to certain risks such as down trends, no matter what asset class they belong. It is possible that a diversified portfolio lessen the effects of a large loss in a bear market. But the portfolio may still be subject to a certain level of losses in the short term.

Myth 2: The more money is spread among asset classes, the lesser the risk.

This is not usually the case. Even if you try to spread your investments over a wider range of assets and securities, it doesn’t necessarily mean that you would enjoy a relatively lower risk than when investing in a single asset class. No matter how wide the range of your investment may be, they may not always enjoy lesser risks since it may depend on other factors such as balance and asset type.

Myth 3: Diversification requires constant rebalancing.

Rebalancing generally means shifting portfolio positions by selling asset classes that have grown beyond their original allocation and buying positions in asset classes still way below what the investor expects. While it may provide the benefit of selling assets at high values and then buying them again when they become cheap, but the frequency of rebalancing efforts does not matter. All one needs is to be consistent. It can just be an annual asset allocation and that may be enough to rebalance and make corrections to a portfolio.

Tags: asset allocation