Finding the right asset allocation for you
Make sure you have a blend of investments from various asset classes.
Asset allocation is the practice of diversifying your portfolio with a mix of investment options. Along with the percentage of pay you defer into your employer-sponsored retirement plan, it can be an essential part of getting the most out of your employer's retirement plan.
"Asset allocation is absolutely critical," says Randy Long, managing principal at SageView Advisory Group in Irvine, Calif. "A significant portion of an investor's total portfolio return is derived from the asset allocation."
Through asset allocation, you can diversify your investment elections to help achieve a level of risk with which you are comfortable.
Your personal mix
Asset classes are categories of investment options. Each category has its own risk and performance characteristics. In general, asset classes with lower risk levels offer lower potential for growth. Likewise, asset classes with higher risk levels offer greater growth potential.
Mixing the various categories helps you develop an asset allocation that may be in line with your risk tolerance. But how should you decide what mix is right for you? Consider the following:
Your savings timeframe
In general, the longer you have before retirement, the greater percentage you might hold in higher-risk investment options, such as International Equities. You may want to take advantage of their potential for inflation-beating growth, given the categories' higher risk levels and the thought that you could likely have time for future returns to make up for downturns. As retirement nears, you may shift a larger percentage of retirement funds to lower-risk categories, such as fixed income, to potentially help preserve what you've accumulated.
Your emotional response
A diversified asset allocation may help you feel more comfortable with your portfolio even when the market shifts. That's because you're better able to manage risk: With a mix of different investment options from various asset classes, you may not be impacted as much by changes to a single category. Asset allocation may help you ride out market highs and lows and help you resist the urge to speculate during market swings.
If the fear of market declines keeps you up at night, you may prefer to have a heavier mix of lower-risk investment options. If downturns don't bother you and you are decades from retirement, your allocation may include more higher-risk asset classes.
Stay on track
After you've established your asset allocation, take care to maintain it. Review the asset allocation of your portfolio at least annually or as significant events occur. Be sure you are comfortable with the way the retirement savings are allocated, and that your choices continue to be in line with your goals.
Check out our interactive retirement planning tool.[1] The tool can help give you perspective of your current retirement savings as you determine the actions you may need to take, over time, to save for a more secure retirement.
Take the Investor Profile Quiz (login to retirement plan account required) from the Principal Financial Group®. It may help you identify your risk tolerance level. The quiz is just a guideline to be used for educational purposes, but your responses could help you develop an investment strategy based on your age, how long you expect to live in retirement and your appetite for risk.
