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The temptation to time the market is universal.  The problem with market timing is that it is almost impossible to achieve.  It requires not only foretelling the future correctly to be invested in those securities that are about to appreciate in value, but also knowing when to get out.  Being out of the market during only a few of the best trading days can ruin a portfolio's long-term returns.

The stock market's recent problems have made the case for dispersing investable assets across several different classes and investment styles.  A bad economy or a bad market is the best time to consider using an asset allocation strategy.  In many cases it's difficult for some investors to stay the course with asset allocation in a bull market.  The feeling of missing the upturn may encourage investors to ride along with the bull instead of their asset allocation program.  However, one only need remember the recent dot-com stock downturn as a reminder of how quickly a golden boy of the market can become a dog.  Those that were overweighted in internet stocks have pared down dramatically and looked to benefit from a better-diversified portfolio.

How many investors can predict the future of the markets?  Not many.  Fortunately for the investor, asset allocation diversifies assets in order to minimize risk for a given level of return.  It is a scientific strategy that blends portfolio diversification, long-term trends and the specific level of risk you want to assume into a personalized investment plan.  It's the ultimate protection should things go wrong in one investment class or sector, as is likely to be the case from time to time.

Why asset allocation?  

A bad year in the stock market at the end of the millennium may show up as nothing more than an insignificant blip by 2010 or certainly by 2020.  This is because the stock market is historically the best long-term investment vehicle.  In the short term, however, the stock market is more volatile than other investments.  Consequently, investors with less risk tolerance, including people who are close to retirement age, should put less money into stocks than younger, less risk-adverse individuals, and invest in a comfortable percentage in bonds.

An individual's risk tolerance and goals for returns on his or her investments are dominant factors influencing what percentage of his or her investment dollar should be put into each of the three investment categories (stocks, bonds and money markets or cash).  Making these choices wisely delivers the maximum return within each investor's comfort zone for risk, enabling the investor to reach realistic financial goals without losing sleep.

When using asset allocation as an investing strategy, the important goal is to develop a long-term investment policy that will guide you over many years.  Asset allocation can provide a balanced, rational approach to building long-term wealth.  If implemented with discipline, it can bring order to a permanently uncertain investment environment.

Studies have shown that asset allocation is a determinant of investment performance.  Perhaps unaware of these findings, many investors lightheartedly sink money into this or that without ever formulating, much less following, an investment-allocation plan.  If they were to see a qualified investment planner, they might act differently as drawing up an asset-allocation model is one of the programs many advisors recommend.

Determining the right allocation    

The ultimate financial goal, of course is retirement.   How soon you retire, and in what style, can be greatly affected by your decisions on asset allocation earlier in life.  When considering risk, it's more productive to think in terms of your tolerance for volatility.  This is because one of the greatest investment risks is the risk of doing nothing and missing out on superior returns.

An aggressive investor planning to retire in 15 years who has a high tolerance for volatility may want to have 80 percent of his or her holdings in the stock market, 18 percent in bonds, and the remainder of 2 percent in money markets.  If this investor is planning to retire in 25 years, he or she might increase the stock holdings up to 85 percent.

Those retiring in 15 years but with less tolerance for volatility may want to keep 50 percent in stocks and 40 to 48 percent in bonds.  For equally volatility-shy people 10 years younger, the percentage in stocks could be around 65 percent.

Those retiring in five years are faced with the daunting task of allocating their assets for maximum return without betting the farm.  A nasty market dip could occur immediately before retirement, leaving the retirement pot drastically short.  Individuals this close to retirement who can live with higher volatility may want to put all their holdings in stocks, weighted mainly in large-cap issues that are more dependable in the medium term than smaller caps and international issues.

Before you actually invest in accordance with your new asset allocation plan, you will want to do something that few individual investors do -- find out specifically what you own.

Achieving the right mix of stocks types (small, mid and large-caps as well as internationals) and bonds (short, medium and long-term) to achieve maximum return for your volatility tolerance while maintaining adequate diversification is a tricky business, so you may want to consider consulting an investment planner or financial advisor.  Your investment planner would have a good handle on asset allocation strategies.

This article was published in The Network Journal. Jodye Deal, contributed this article for the New York-based magazine.  If you have questions on investing, please send them to Investing@GazelleAssociates.com.

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