Understanding Asset Allocation

You have certain long-term financial goals such as saving for a comfortable retirement, sending the kids to college or owning a business someday. You also have a certain appetite for risk. Asset allocation can help you pursue your goals at your own risk level. In fact, studies have shown that asset allocation may account for over 90% of your portfolio’s performance.

What is asset allocation?

Asset allocation is an approach in which you spread investments over different asset categories, such as equities, cash like investments, real estate, foreign securities, and possibly even precious metals. How you allocate your assets depends upon several factors, including your investment objectives, attitudes toward risk and investing, age, and time horizon.

As the following chart illustrates, it’s hard to predict how asset classes will perform each year- last year’s loser may be next year’s winners and vice versa. By diversifying your investments over asset classes, you potentially reduce risk and volatility in your portfolio. Generally, downturns in one investment class are expected to be tempered (or even offset) by favorable returns in another.

With a longer-term investment horizon, you can ride out several economic cycles and therefore assume more risk. A shorter time frame usually requires a more conservative approach, meaning that you may want to reallocate investments into a lower volatility mix of asset classes as the time approaches to convert your investments to cash for your particular goal.

Monitoring and rebalancing asset allocation

The manner in which you practice asset allocation today may not be appropriate for you in the future. This can be the result of economic fluctuations and/or changes in your investment objectives. In addition, any growth or decline within asset classes may cause your asset allocation ratios to shift. For this reason, it is important to monitor your asset allocation periodically and rebalance your portfolio as needed. Rebalancing your portfolio requires you to shift funds from one asset class to another in order to regain the ratios you determined appropriate for your investment portfolio.

Consider the below illustration of three hypothetical investors. Each invested $10,000 annually on December 31, over 20 years for a total of $200,000. While these returns can’t guarantee future results, the investor who allocated, diversified, and rebalanced to maintain his allocation was the most successful*.

Source: Lipper Inc. Hypothetical results are for illustrative purposes only and are not intended to represent the future performance of any Azzad portfolio. The use of a systematic investing program does not guarantee a profit.

The information provided here is for educational purposes only and should not be regarded as investment advice. The asset allocation strategy discussed here is practiced in the Ethical Wrap Program. It is important to note that asset allocation does not guarantee a profit or protect against loss in a declining market. Asset allocation is a method used to help manage risk. There is no assurance that a diversified portfolio or asset allocation will achieve a better return than a non-diversified portfolio. Please contact your Azzad advisor at 888-862-9923 for more information about what we believe to be a more disciplined way to invest. All charts shown here are for illustrative purposes only and do not represent any actual investments in the Azzad portfolios.