Asset allocation is an effective portfolio management is the one with long-term mix of assets. Asset allocation is based on the understanding. It seeks to optimize the risk or return profile of an investor by investing in a mix of assets that have low correlation to each other. Investors with aggressive profiles can weight their portfolios toward volatile investments. Whereas, investors with conservative profiles can weight their portfolios toward stable investments.
The only certainty in investing is its uncertainty. It is impossible to consistently predict the winners and losers. So, the prudent approach is by creating a basket of investments that provide broad exposure within an asset class. Diversification is the method of spreading risk and reward within an asset class. Since it is difficult to know which particular subset of an asset class or sector is likely to outperform another, diversification aims to capture the returns of all the sectors over time but everytime with less volatility. Proper diversification can take place across different classes of securities, sectors of the economy and geographical regions.
An investor must maintain the chosen asset allocation as per the investment strategy to manage the portfolio until the time comes to change it based on age or financial position. One of the requirements to sustain the current asset allocation strategy is to redo its allocation every now and then. The assets' value in some investments increases or decreases with time, making it necessary for the portfolio to rebalance. For example, if a portfolio asset gets increased in value compared to another asset, it would dominate on the portfolio’s performance and vice versa. Thus, an investment portfolio might expose its owner to higher levels of risk or lower long-term profits.
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