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Diversify Y our Investment Por tfolio

1. What do I want from my investments? Asset allocation involves dividing
an investment portfolio among different asset categories, typically
stocks, bonds and cash. Determine when you’ll need to use some or
most of your money for living expenses. This might be to make a down
payment on a home, invest in a full-time or part-time business, pay
college tuition for a child or pay living expenses when you’re retired.

2. How much risk do I want to take? Risk tolerance is directly related to
your investment time horizon, but also to your willingness to take risks
in exchange for greater potential returns. Some people are willing to
go for broke, while others hate the thought of ever losing money.

The longer your time horizon, the more comfortable you can reasona-
bly feel about investing in more growth-oriented vehicles. Let me explain.
When time is on your side, your risk in effect is reduced because the inevita-

ble fluctuations in the market and in the fortunes of individual companies
tend to even out over time. And the natural tendency of stock markets is to
rise over the long haul, fueled by growing economies and companies. But in

the short run, you won’t have the time to recover financially if something
bad happens. So if you have a shorter-term financial need, minimize your

investment risk with that money. What about the investment assets you
won’t need for 7 to 10 years or more? You can invest for long-term growth
and rest easy regardless of short-term fluctuations in the value of your nest

egg. So make sure you evaluate your long-term needs and adjust your port-
folio accordingly.
Over time, a middle-of-the-road allocation is much better than going to
one extreme or the other without the willingness to make adjustments when
necessary. For example, many people loaded up on technology stocks in the
late 1990s. When the market began its sharp decline in 2000—the worst bear
market since the Great Depression—many of these investors refused to sell
and suffered dramatic, sometimes life-changing losses.
I also remember hearing of investors who bought 30-year U.S. Treasury
bonds after World War II, only to see their principal and the purchasing
power of their investment become decimated by rising inflation and interest

rates over the next three decades. Yet many held on to those “safe” bonds.
Then there were those savers who enjoyed sky-high yields—12 percent

or more—on bank certificates of deposit and money market funds in the
early 1980s. “Who needs stocks?”, quite a few told me back then. By 1993,
though, yields on “risk-free” savings had crashed to 3 percent, which worked

out to considerably less than zero after inflation plus taxes on the interest.
Meanwhile, the Dow Jones industrial average soared from 850 to 3600.

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