Beginner
What It Means
Asset allocation is your portfolio’s recipe - how much of each ingredient (asset class) to include. It determines your risk level and expected return more than any other decision.Common Allocations
The 60/40 Portfolio
The classic “balanced” portfolio: 60% stocks, 40% bonds. It’s a common starting point that balances growth potential with stability.Why It Matters
Research shows asset allocation explains about 90% of portfolio return variability over time. Individual stock selection matters far less than your mix of stocks vs. bonds vs. other assets.Advanced
The 90% Rule
Brinson, Hood, and Beebower (1986) found that asset allocation explains over 90% of the variation in portfolio returns over time. This landmark study shifted focus from stock picking to strategic allocation.This doesn’t mean 90% of returns come from allocation - it means 90% of return differences between portfolios are explained by allocation differences.
Strategic vs. Tactical
Asset Class Characteristics
Historical Returns
Long-term annualized returns (US, approximate):Allocation by Age
Traditional rule of thumb: “100 minus your age” in stocks.Modern Portfolio Theory
Harry Markowitz (1952) showed how to optimize allocation for maximum return at each risk level - the “efficient frontier.” Key insight: Combining assets with low correlation reduces portfolio risk below the weighted average of individual risks.Factors Affecting Allocation
Rebalancing
Asset allocation drifts as markets move. Rebalancing returns the portfolio to target:- After stocks rise: Sell stocks, buy bonds
- After stocks fall: Sell bonds, buy stocks
Data and Implementation
Related Terms
Diversification
Core principle of allocation
Portfolio Rebalancing
Maintaining target allocation
Correlation
Key to allocation benefits