The Importance of Proper Asset Allocation Essay

The Importance of Proper Asset Allocation Essay

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According to Investopedia (Asset Allocation Definition, 2013), asset allocation is an investment strategy that aims to balance risk and reward by distributing a portfolio’s assets according to an individual’s goals, risk tolerance and investment horizon. There are three main asset classes: equities, fixed-income, cash and cash equivalents; but they all have different levels of risk and return. A prudent investor should be careful in allocating each asset class to his portfolio. Proper asset allocation is a highly debatable subject and is not designed equally for everybody, but is rather based on the desires and needs of the individual investor. This paper discusses the importance of asset allocation, the differences and the proper diversification within the portfolio.
Asset allocation decisions made by an investor are considered more important than other decisions such as market timing or security selection. In the research provided by Hensel (1991), performance attribution is one of the main components when choosing the right assets in a portfolio. The impact of any investment decision can be measured by comparing its outcome with the outcome of some alternative decision. Furthermore, according to Hensel (1991), every investor has to incorporate the minimum-risk portfolio, which is a combination of securities or asset classes that reduces the uncertainty of future portfolio returns to a minimum.
In the paper published by Xiong (2010), it is presented that a portfolio’s total return can be disintegrated into three components: the market return, the asset allocation policy return in excess of the market return, and the return from active portfolio management. The asset allocation policy return refers to the fixed asset allocati...

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Asset Allocation Definition | Investopedia. (n.d.). Investopedia - Educating the world about
finance. Retrieved June 15, 2013, from
Hensel, C. R., Ezra, D., & Ilkiw, J. H. (1991). The Importance of the Asset Allocation Decision.
Financial Analysts Journal, 47(4), 65-72.
Ibbotson, R. G. (2010). The Importance of Asset Allocation. Financial Analysts Journal, 66(2),
Lynott J. William. (2005).Proper asset allocation ensures successful portfolio performance.
Dermatology Times, 26(5), 96.
Securities and Exchange Commission. (n.d). Retrieved on June 8, 2013 from
Xiong, J. X., Ibbotson, R. G., Idzorek, T. M., & Chen, P. (2010). The Equal Importance of Asset
Allocation and Active Management. Financial Analysts Journal, 66(2), 1-9.

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