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Risk, Reward, and Asset Allocation: It’s Personal!

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**This week’s blog post is an excerpt sourced from the U.S. Securities and Exchange Commission website. To read the entire article, please visit http://www.sec.gov/investor/pubs/assetallocation.htm**

“When it comes to investing, risk and reward are inextricably entwined. You’ve probably heard the phrase “no pain, no gain” – those words come close to summing up the relationship between risk and reward. Don’t let anyone tell you otherwise: All investments involve some degree of risk. If you intend to purchases securities – such as stocks, bonds, or mutual funds – it’s important that you understand before you invest that you could lose some or all of your money.

The reward for taking on risk is the potential for a greater investment return.  If you have a financial goal with a long time horizon, you are likely to make more money by carefully investing in asset categories with greater risk, like stocks or bonds, rather than restricting your investments to assets with less risk, like cash equivalents.  On the other hand, investing solely in cash investments may be appropriate for short-term financial goals.

Asset allocation involves dividing an investment portfolio among different asset categories, such as stocks, bonds, and cash.  The process of determining which mix of assets to hold in your portfolio is very personal.  The asset allocation that works best for you at any given point in your life will depend largely on your time horizon and your ability to tolerate risk.  Stocks, bonds, and cash are the most common asset categories.  These are the asset categories you would likely choose from when investing in a retirement savings program or a college savings plan.  But other asset categories – including real estate, precious metals and other commodities, and private equity – also exist, and some investors may include these asset categories within a portfolio.  Investments in these asset categories typically have category-specific risks.  Before you make any investment, you should understand the risks of the investment and make sure the risks are appropriate for you.

By including asset categories with investment returns that move up and down under different market conditions within a portfolio, an investor can protect against significant losses.  Historically, the returns of the three major asset categories have not moved up and down at the same time.  Market conditions that cause one asset category to do well often cause another asset category to have average or poor returns.  By investing in more than one asset category, you’ll reduce the risk that you’ll lose money and your portfolio’s overall investment returns will have a smoother ride.  If one asset category’s investment return falls, you’ll be in a position to counteract your losses in that asset category with better investment returns in another asset category.”

The asset allocation and risk profile you and your financial planner design is highly personal.  If you haven’t evaluated your asset allocation and the role of risk in your portfolio, we encourage you to do so soon.

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