Asset Allocation

Different asset types behave differently. Shares have historically offered higher long-term returns but can fall sharply in the short term. Bonds usually offer lower returns but are generally more stable. Cash is the safest but often barely keeps up with inflation. Combining them changes the overall balance of risk and return.

For example, a portfolio of 60% shares and 40% bonds is a common balanced mix. A young investor with decades ahead might choose 90% shares and 10% bonds, while someone close to retirement might prefer 40% shares and 60% bonds to reduce the risk of a large fall just before they need the money.

Many studies suggest that asset allocation explains a large part of the variation in a portfolio's returns over time, more than the choice of individual shares or funds.

The right allocation depends on an investor's goals, time horizon and ability to cope with losses. Because markets move, a portfolio's allocation drifts over time, so investors periodically rebalance to bring it back to their target.