Page 107 - DMGT515_PERSONAL_FINANCIAL_PLANNING

Personal Financial Planning

Notes Different investments offer different levels of potential return and market risk. Unlike stocks
and corporate bonds, government T-bills are guaranteed as to principal and interest, although
money market funds that invest in them are not. Past performance is not indicative of future
results.

6.1.2 Diversification: The Basis of Asset Allocation

Before exploring just how you can put an asset allocation strategy to work to help you meet your
investment goals, you should first understand how diversification — the process of helping
reduce risk by investing in several different types of individual funds or securities — works
hand in hand with asset allocation. When you diversify your investments among more than one
security, you help reduce what is known as “single-security risk,” or the risk that your investment
will fluctuate widely in value with the price of one holding. Diversifying among several asset
classes may increase the chance that, if and when the return of one investment is falling, the
potential return of another in your portfolio may be rising (though there are no guarantees and
the total value of your portfolio may decline).

Portfolio Risk Level
Low Moderate Aggressive
% Treasury Bills 30 30 20 10 0 10

% Bonds 40 30 30 40 30 20
% Growth Stocks 30 30 40 30 50 70
% Small Caps 0 0 0 10 10 0
% International 0 10 10 10 10 0

Chart illustrates sample portfolio asset allocations: Low Risk (those nearing or in retirement); Moderate Risk (middle-aged
investors); Aggressive Risk (younger investors).
Allocations are presented only as examples and are not intended as investment advice. Please consult a financial professional if
you have any questions about how these examples may apply to your situation.
Sources: Standard & Poor’s; Center for Research and Security Prices; Morgan Stanley; For the 20-year period ended 12/31/05.

Importance of Asset Allocation

The chart above can help you select an appropriate allocation for your investment portfolio
based on your life stage. For instance, at age 25 you may decide to invest with the goal of retiring
in comfort within 40 years. Most likely, your investment goal is to achieve as much growth as
possible — growth that will outpace inflation substantially. In aiming to reach this goal, depending
on your individual risk tolerance, you may allocate 70% of your assets into aggressive growth
stocks, 20% into bonds, and 10% into money market instruments. You have years to ride out the
wide fluctuations that come with stocks, but at the same time, you help manage your risk with
your bond and money market holdings. Because your goals and circumstances are unique, you
should talk with a financial professional who can help you tailor an allocation strategy for your
needs. Generally, your asset allocation will change with your life, your lifestyle, and your
investment goals. If you have been investing aggressively for retirement for more than 20 years
and are now less than 10 years from retiring, protecting what your investment may have earned
from market ups and downs may become more important. In this case you may want to gradually
shift some of your stock allocation into your bond and money market holdings. Keep in mind,
however, that many financial experts recommend that stocks be considered for every suitable
portfolio to maintain growth potential.

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