Investment Basics

When investing, particularly for long-term goals, there are two basic concepts you will likely hear about over and over again — diversification and asset allocation. Diversification helps limit exposure to loss in any one investment or one type of investment, while asset allocation provides a blueprint to help guide your investment decisions. Understanding how the two concepts work can help you put together a portfolio that meets your specific needs.

Diversification: Spreading out risk

Diversification refers to the process of investing in several different securities to help manage risk. The theory is that if some investments in your portfolio decline in value, others may rise or hold steady.

For example, say you wanted to invest in stocks. Rather than investing in just domestic stocks, you could diversify your portfolio by investing in foreign stocks as well. Alternatively, you could choose to include the stocks of different size companies (small-cap, mid-cap or large-cap stocks).

If your primary objective is to invest in bonds for income, you could choose both government and corporate bonds to potentially take advantage of their different risk/return profiles. You might also select bonds of different maturities because long-term bonds tend to react more dramatically to changes in interest rates than short-term bonds. As interest rates rise, bond prices typically fall.

Asset allocation: Investing strategically

Asset allocation is a strategic approach to diversifying your portfolio among different asset classes that seek to pursue the highest potential return within a certain level of risk. After carefully considering your investment goals, time horizon and risk tolerance, you would then invest different percentages of your portfolio in targeted asset classes to pursue your goals. A careful analysis of these three personal factors can help you make strategic choices that are suitable for your needs.

Generally speaking, a large accumulation goal, a high tolerance for risk and a long time horizon would typically translate into a more aggressive strategy and therefore a higher allocation to stock/growth investments. One example of an aggressive strategy is 70% stocks, 20% bonds and 10% cash.

The opposite is also true: A small accumulation goal (or one geared more toward generating income), low tolerance for risk and a shorter time horizon might require a more conservative approach. An example of a more conservative, income-oriented strategy is 50% bonds, 30% stocks and 20% cash.

Rebalance to stay on target

Over time, asset allocation can shift simply due to changing market performance. For example, in years when the stock market performs particularly well, a portfolio may become overweighted in stocks. Alternatively, in years when bonds outperform, they may end up comprising a larger-than-desired percentage of the portfolio. In these situations, a little rebalancing may be in order. 

There are two ways to rebalance. The first is by selling securities in the overweighted asset class and directing the proceeds into the underweighted ones. The second method is by directing new investments into the underweighted asset class until the desired allocation is achieved. 

Keep in mind that selling securities can result in a taxable event, unless you hold them in a tax-advantaged account, such as an employer-sponsored retirement plan or an IRA.

Investing in mutual funds

Because mutual funds invest in a mix of securities chosen by a fund manager to pursue the fund’s stated objective, they can offer a certain level of “built-in” diversification. For this reason, mutual funds may be an appropriate choice for novice investors or those wishing to take more of a hands-off approach to their portfolios. Including a variety of mutual funds with different objectives and securities in your portfolio will help diversify your holdings that much more. You can also select a combination of mutual funds to achieve your portfolio’s targeted asset allocation.

Mutual funds are sold by prospectus. Please consider the investment objectives, risks, charges, and expenses carefully before investing. The prospectus, which contains this and other information about the investment company, can be obtained from your financial professional. Be sure to read the prospectus carefully before deciding whether to invest.

For more information on investing and to schedule your, no-obligation consultation, please contact our qualified CFS* Wealth Management advisors.

*Non-deposit investment products and services are offered through CUSO Financial Services, L.P. (“CFS”), a registered broker-dealer Member FINRA/SIPC and SEC Registered Investment Advisor. Products offered through CFS: are not NCUA/NCUSIF or otherwise federally insured, are not guarantees or obligations of the credit union, and may involve investment risk including possible loss of principal. Investment Representatives are registered through CFS. The Credit Union has contracted with CFS to make non-deposit investment products and services available to credit union members.

Prepared by Broadridge Investor Communication Solutions, Inc. Copyright 2019

Author John Marx

John has been in the financial services industry since 1986 and is currently Elevations VP of Wealth Management, in addition to being a registered Financial Advisor through CUSO Financial Services, L.P. He shares helpful tips on investments, insurance and money management.

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