Module 11 Asset Allocation

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Module 11Asset Allocation
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Module 11 Learning Objectives

• Define asset allocation.
• List the asset classes and subcategories an
  investor can select from.
• Explain how asset allocation can maximize return
  and reduce risk.
• Explain rebalancing.
• Evaluate the asset allocation of a portfolio.

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Asset AllocationTrue or false?

• Most investors hold a well-diversified portfolio.
• Humans were meant to stock pick.
• Investing will always be partly a guessing game.

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Name all the asset categories you can allocate
into.
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Consider the full menu of investments
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Lets work on the best return first
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Does more return mean more risk?
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Does the risk double with two investments?
The key is having two investments which arent
correlated.
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Adding a riskier investment to your portfolio
decreases overall risk.
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If you allocate the right amount you reduce risk
and increase return!
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Some investors think of risk as the maximum loss
they are willing to take. What does asset
allocation do for that?
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You can reduce your maximum loss by diversifying.
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Life Cycle Asset Allocation
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Combining risk and return to get the most
efficient portfolio.
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Bonds Risk Return
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US Stocks Risk Return
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Sectors Risk Return
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International Risk Return
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Combined Risk Return
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• Calpers is the California pension system. Check
  out their 2007 to 2008 target asset allocation
  (available on their Web site www.calpers.ca.gov
  under Investments). What differences do you see?
  What does their target allocation suggest?

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Pension Fund Portfolio
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Millionaires Portfolio
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David Swensen suggests a portfolio
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Rebalancing

• Adjusting portfolio based on asset allocation
  goals

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Buy high, sell low
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Rebalancing

• Determine what your asset allocation will be. For
  example
• 60 stocks
• 40 bonds
• Adjust your portfolio when your allocation
  exceeds 5 difference from your target so that
  you keep your asset allocation goals, that is 60
  stocks and 40 bonds

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No rebalancing

• If you didnt rebalance your portfolio, the
  allocation of stocks would grow to 73 and the
  allocation of bonds would shrink to 27

Year Bond Stock
1992 40 60
1993 40 60
1994 39 61
1995 35 65
1996 32 68
1997 27 73
1998 24 76
1999 21 79
2000 24 76
2001 28 72
2002 36 64
2003 31 69
2004 30 70
2005 29 71
2006 27 73
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Rebalancing

• Rebalancing naturally sells high and buys low
• You end up with more gains
• It reduces the lows.

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Protect your wealth.
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• Safeguard all your financial information
• Keep good records and reconcile all your accounts
• Check your credit report
• If you feel that you have been a victim of fraud,
  file a complaint with the DFI at 1-877-RING-DFI
  or at their website www.dfi.wa.gov.

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• Take time to pick an investment advisor who is
  appropriate for you. Look at Certified Financial
  Planner website for tips on how
  http//www.cfp.net/
• Immunize yourself against investment fraud
  check out all advisors and investments google
  them and check with www.dfi.wa.gov

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Let Uncle Sam help you save (taxes).
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Use tax-advantaged saving
Roth IRA Traditional IRA
Who is eligible Anyone who had income from working and his or her nonworking spouse. There are income limits. Anyone up with age 70 ½ with income from working and his or her nonworking spouse. There are no income limits.
Maximum you can contribute You cannot contribution more than you earn in compensation. Up to 8000 (4000 each) combined contribution or 10,000 (5000 each) for those 50 and over. The maximum will go up 1000 in 2008. You cannot contribute more than you earn in compensation. Up to 8000 (4000 each) combined contribution or 10,000 (5000 each) for those 50 and over. The maximum will go up 1000 in 2008.
Tax status of contributions Contributions must be after-tax. Contributions may be pretax up to certain income limits.
Tax status of earnings Earnings are tax free. Earnings are tax deferred. You pay ordinary income tax when you take the money out therefore missing out on lower capital gains tax.
Withdrawals Contributions may be withdrawn without penalty. Earnings can be withdrawn without penalty for some expenses. Withdrawals made before age 59 ½ will be subject to a penalty of 10 in addition to tax.
Mandatory age for withdrawals None 70 1/2
Check www.irs.gov Publication 590 for more
information.
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Tax-advantaged education saving

• 529 Plans after-tax contributions, tax exempt
  distributions if used for qualified educational
  expenses
• College savings plan
• Prepaid college tuition plan (Washington GET
  www.get.wa.gov)
• Coverdell after-tax contributions, tax exempt
  distributions. Some restrictions.

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Six steps to investing intelligently

• Set goals and develop a life-long saving plan. 
• Learn about returns and risk.
• Evaluate your investments.
• Asset allocate.
• Protect your wealth.
• Use tax-advantaged saving.