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INDEPENDENT RECORD n FEBRUARY 27, 2011 D n ESTATE AND FINANCIAL PLANNING

Asset Allocation Sean Sturges, Vice President Director of Financial Planning D.A. DAVIDSON & CO.

Asset allocation, or the process of dividing your investable dollars among different investments, is something most of us are familiar with. It’s the idea behind the common idiom “don’t put all of your eggs in one basket.” It’s also a tacit acknowledgement of the certainty of uncertainty when it comes to investing. If we were absolutely certain that a specific investment were going to outperform all other investments over a given period, the logical response would be to direct all of our dollars into it. However, history has repeatedly shown us that predicting the best investment over a given period of time can be difficult, if not impossible. Additionally, while concentrating all of our investment dollars in a single investment (or even a few) can increase our possibility for significant gain in the event we are correct, it also drastically increases our risk of considerable loss in the event we are wrong. Finding the proper balance between risk and reward is the purpose of asset allocation. In the most traditional sense, asset allocation is achieved by spreading investment dollars among stocks, bonds and cash. Drilling down deeper, our stock allocation would likely be further divided by market capitalization (i.e., company size), geography (e.g., U.S., developed international markets, emerging markets), and investment style (e.g., growth or value), while we would likely sub-divide our bond exposure by issuer type (e.g., government, corporate, etc.), credit quality (e.g., investment grade, high-yield), and maturity. In addition to the stocks, bonds and cash that make up most portfolios, it may be prudent to include other asset classes such as commodities and managed futures. Choosing the appropriate mix of

these components can be difficult, and there isn’t a single right combination. Whether an asset allocation is good or not depends largely upon how it fits with the goals you are trying to achieve, your time horizon for doing so and other specifics of your situation. It is important to point out that asset allocation is not a one-time event. Just like building a home, there is ongoing maintenance and upkeep. Seeking professional advice in this area can be one of the most important decisions you make because a financial consultant can help you first outline your goals and then discuss which asset allocation options will help you achieve them. Finally, it is important to dispel the notion put forth by numerous pundits during the recent financial crisis that asset allocation and diversification are dead, as it highlights a common misconception. Asset allocation and diversification are in no way a guarantee of positive investment returns. Rather, asset allocation and diversification are a means by which to reduce the potential for catastrophic loss. To illustrate this, consider the results of two portfolios during 2008--arguably the worst year for the financial markets since the Great Depression. Over the course of that year, a portfolio that was

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Finding the balance between your financial investing risk and reward equally-weighted among foreign, small growth, small value, large growth and large value stocks* lost approximately 37 percent of its value. Contrast this with a portfolio that had 40 percent allocated to bonds* and 60 percent divided evenly among the five equity asset classes mentioned previously.The second portfolio, though down at the end of the year, only lost approximately 20 percent of its value, a difference of 17 percent.This is not to suggest that losing 20 percent in a single year is a hoped-for result. However, it highlights the benefit of having a well-balanced portfolio, as well as the fact that to achieve diversification, you need to invest in things that are truly different and that respond differently to potential risks. Having professional guidance can go a long way toward

helping you do so. *The asset classes in our example are large growth stocks as represented by the Russell 1000 Growth Index, large value stocks as represented by the Russell 1000 Value Index, small growth stocks as represented by the Russell 2000 Growth Index, small value stocks as represented by the Russell 2000 Value Index, foreign stocks as represented by the MSCI EAFE Index and bonds as represented by the Barclays Aggregate Bond Index. Please note that any reference to a specific security or strategy does not represent an offer to buy or sell a security and is not intended to be investment advice. It is important to note, as well, that it is not possible to invest directly in an index. Finally, past performance should not be considered an indicator of future performance.

Consider the importance of the fine-tuning that improves your financial engine’s performance. Market fluctuations may mean it’s time to update your assets allocation so that it’s geared toward today’s conditions, not yesterday’s. Your D.A. Davidson & Co. financial consultant can help you get back on track.

Estate Planning 2011  
Estate Planning 2011  

Estate Planning 2011

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