Return Versus Risk Trade-off
In asset allocation planning, the decision on the amount of stocks versus bonds in one's portfolio is a very important decision. Simply buying stocks without regard of a possible bear market can result in panic selling later. One's true risk tolerance can be hard to gauge until having experienced a real bear market with money invested in the market. Finding the proper balance is key.
| Cumulative return after inflation from 2000-to-2002 bear market | |
|---|---|
| 80% stock / 20% bond | −34.35% |
| 70% stock / 30% bond | −25.81% |
| 60% stock / 40% bond | −19.99% |
| 50% stock / 50% bond | −13.87% |
| 40% stock / 60% bond | −7.46% |
| 30% stock / 70% bond | −0.74% |
| 20% stock / 80% bond | +6.29% |
| Projected 10 year Cumulative return after inflation (stock return 8% yearly, bond return 4.5% yearly, inflation 3% yearly |
|
|---|---|
| 80% stock / 20% bond | 52% |
| 70% stock / 30% bond | 47% |
| 60% stock / 40% bond | 42% |
| 50% stock / 50% bond | 38% |
| 40% stock / 60% bond | 33% |
| 30% stock / 70% bond | 29% |
| 20% stock / 80% bond | 24% |
The tables show why asset allocation is important. It determines an investor's future return, as well as the bear market burden that he or she will have to carry successfully to realize the returns.
Read more about this topic: Asset Allocation
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