Personal Finance

Asset Allocation is the process of dividing investments among different kinds of asset classes (such as stocks, bonds, cash, real estate, commodities, etc.) to try to meet specific financial goals.  Research shows (Brinson, Hood & Beebower, 1986) that over 90% of investment portfolio performance over time is explained by the asset allocation decision. Thus asset allocation is so important, way more than security selection.

Do not believe the myth that diversification can be achieved with 10-30 individual stocks.  Academic research indicates that it takes at least 60 randomly selected individual stocks to eliminate 88% of diversifiable (uncompensated) risk.  Build a $250,000 core portfolio with low cost index funds or at least 60 individual stocks from different industries and countries.

For this core portfolio, adopt a financial asset allocation target of equity mutual funds and interest earning vehicles.  The split between these groups is based on your risk profile.  As you build wealth with this proven strategy, you create the solid foundation which increases your risk capacity. Your asset allocation will also change to match your increased risk capacity as your overall financial position on the Financial Life Cycle improves.

Use Morningstar’s fund screener to find mutual funds under these categories.  We recommend passively managed or index funds with low expense ratios.

There are many strategies for changing your financial asset allocation to more closely proximate the model of middle income millionaires.  All the strategies accomplish the same goal, but differ in terms of:

• Transaction costs
• Tax consequences
• Complexity
• Time to implement
• Financial benefits ($$$) to you
• Your emotional resistance

These strategies include:

• Liquidating portfolio equity assets and reinvesting in interest earning assets
• Invest 100% of your new IRA contributions/salary deferrals into interest earning assets until you achieve the target.
• Purchasing  US Savings bonds with after-tax dollars
• Some combination of the above

The National Association of Personal Financial Advisors (NAPFA) wants you to become more knowledgeable about personal financial issues, like basic money management, investments, kids and money, and much more. That’s why they’re launching a series of FREE online seminars (webinars) over the next year. The Consumer Webinar Series is for everyone – no matter how in tune you are with personal financial issues.

Each session is led by a NAPFA-Registered Financial Advisor who commits to the highest of standards in the financial planning industry. Many of the instructors are authors, educators and leaders in the industry.

The Consumer Webinar Series is a year-long initiative beginning August 7 (2009) that will provide an opportunity for anyone in the country to learn about a wide range of financial issues.  Each month a new session will be conducted live online. Consumers can attend the live session after registering for free, or listen to an audio file after the program.

The series will include 12, one-hour sessions delivered via the internet.  The individual sessions will be conducted from 11:00am – 12:00 noon Colorado time and will include:

• August 7, 2009:  Money 101: Knowing the Basics
• September 4, 2009: Kids & Money
• October 2, 2009:  What is Financial Planning?
• November 6, 2009:  Protecting What You Have
• December 4, 2009:  Investments: The Basics
• January 8, 2010:  Investments: Advanced Concepts
• February 5, 2010:  Managing Your 401(k)
• March 5, 2010:  Leaving a Legacy
• April 2, 2010:  Women and Money
• May 6, 2010:  Financial Planning and Small Business Owners
• June 4, 2010: Your Retirement
• July 1, 2010:  Financial Windfalls

Learn more about the Consumer Webinar Series by visiting the webinar page on the NAPFA website.

Asset Allocation is the process of dividing investments among different kinds of asset classes (such as stocks, bonds, cash, real estate, commodities, etc.) to try to meet specific financial goals.  Brinson, Hood & Beebower research of 1986 proved that asset allocation is the single most important decision that an investor makes.  Over 90% of portfolio performance is explained by the asset allocation decision.

 Traditional asset allocation models do not work for real people because their portfolios are much different from institutional portfolios.  Over 80% of all American households have a net worth that is less than $250,000 which includes the value of their home. Some of the big differences between institutional portfolios and those of most individuals include single vs. multiple goals, single vs. multiple time horizons, simple vs. complex tax treatment, professional vs. amateur investment management.

These differences led the founder of the Cambridge system to create a Functional Asset Allocation (FAA) model for individuals.  FAA illustrates how individuals build wealth as measured by Net Worth.

1)      Functional Asset Allocation – all your assets, including your home and personal belongings.

2)      Traditional (institutional) Asset Allocation – only financial assets, including checking accounts, savings, emergency funds, etc.

Using Functional Asset Allocation, your assets should be distributed across three asset categories: Interest Earning, Equities, and Real Estate. Generally, you want to have 1/3 (range of 25-40%) of your net worth in each of the three major asset classes.  Each of the major asset classes serves practical functions in wealth accumulation and risk management.

Read more in our INFO CENTER