Assets. A word we’ve all heard before. But what is an asset? It is a resource that holds current and/or future value to its owner. It’s also something that can be transferred to another party in exchange for cash or other equivalent goods. There are all different types of assets: physical ones that you can touch and feel like cars and real estate, and financial ones like stocks and bonds. Asset classes are groups of “things” that are similar in nature. Within each asset class, there are also subcategories, which we’ll get into at another time.

Ignoring personal assets like your residential home, car, and sports card collection, we’re left with what are collectively known as investable assets. Some common ones are stocks, bonds, cash, cryptocurrency, commodities (e.g., gold, oil), and investment properties. Each asset class carries a distinct set of risk (volatility) that corresponds with its potential reward (return). Therefore, when assessing an individual’s profile, how we divvy up the asset mix is essential in order to match them with their investment preferences. That’s asset allocation.

Asset allocation is the investment practice of deciding how much of each asset class you want to invest in. Think of your money as a pie, with each asset class as a slice with its own distinct flavor. But in your pie, the slices aren’t equal, and their sizes depend on which flavors are best suited for you. To complete our illustration of asset allocation, below is a very generalized description of popular asset classes and their expected behavior:

• Stocks: these are shares of companies or a collection of shares of various companies packaged into one investment (like ETFs). Stock performance depends on the broader market and economy, but also on the health of their individual businesses. Stocks typically have relatively attractive upside, but can also decline in value.
• Bonds: bond investors are lenders to another party. In return, investors receive interest payments for a predetermined period of time. While riskiness of bonds depends on the borrower’s ability to repay the loan, bond investments are typically “safer” for investors with less upside than stocks.
• Cash: dollar bills y’all. If you need an explanation on cash, you’re probably still on the barter system. Cash is the safest of asset classes, with the primary risk being inflation (if you have $1 and the price of a banana goes from $1 to $2, you can no longer buy that banana).

Okay, now that we’ve got the basics, figuring out how to slice them up in your pie depends on the investment goals and risk preferences of the actual investor (you). Facts about yourself helps. Some questions include:

• How much of your overall wealth is being invested?
• How long do you plan to stay invested?
• What's your opinion on risk?
• What’s your financial endgame at the end of that time horizon?
• Etcetera

Once that data is compiled, your asset allocation is an output of that perceived balance of risk and reward.

If you’re young, have lots of disposable income, and don’t need the investment money anytime soon, you may be suited for a portfolio with higher upside at 90% stocks and 10% bonds/cash. While higher risk is involved, your tolerance for staying invested longer gives your portfolio a better chance to right the ship. Conversely, if you’re older and approaching retirement, with lots of bills to pay, a more conservative allocation of 30% stocks and 70% bonds/cash may be ideal. Since you’re planning to live a robust and full retirement, a small sliver in stocks makes sense to capture longer term upside, but the majority of your money is probably better socked away in bonds and cash.

Those are just two examples, but the asset allocation gamut runs across the risk/reward spectrum and can be as granulated as you want. We discussed only stocks, bonds, and cash, but some individuals may want to sprinkle in some other asset classes like crypto or physical assets (e.g., commodities, real estate). Asset allocation can be irresponsibly risky (like betting the house on NFTs), or irresponsibly conservative (like hiding all your money inside a mattress). However, with a little education and assist from an investment manager like Investable, asset allocation can be prudently determined, helping investors invest in a smart and responsible way. Not only does asset allocation start your investment journey on a path that’s right for you, it also adds diversification to your portfolio. When times are rough in stocks, things may not be so bad in bonds and cash. Other times, those trends work in reverse. But having a diversified, well-rounded asset allocation should undoubtedly help you rest easier knowing your investments are being given every opportunity to succeed.