Harry Potter’s Asset Allocation

The way I see it Harry Potter has a big problem.  And it’s not Voldemort.    He’s got all that gold sitting in Gringott’s, creating a gigantic overweight in his investment portfolio.  If a vast new vein of the precious metal is discovered or he needs some Muggle cash quickly, he’s in big trouble.  Harry Potter's Asset Allocation

On the other hand, he’s under 20, is apparently willing to take a risk or two, and hopefully, now has a long life ahead of him.  So, a good financial planner might let him keep an ingot or two of that gold, but tell him to start diversifying into stocks & bonds, too.

If YOU  don’t have a roomful of gold locked in a wizard vault, do you know what you do have?  Do you know if it’s too little or too much?  Even savvy investors aren’t always good about reviewing their asset allocation or rebalancing, especially if its money they won’t need for a while.

And yet, numerous studies have shown that asset allocation is the single most important factor in determining returns.

Here are 5 common questions that keep you from fixing  your asset allocation mix and what to do about it:

1. What asset allocation mix is right for me? It depends (don’t you love that answer; it’s a financial planner’s most frequent response to any question, including “What’s for dinner?”…). But this time it really does depend on 3 things –

  • Your age
  • Your tolerance for taking risks with your money
  • When you need the cash

Check out the sample Asset Allocation Solutions in the Box at www.financiallyfitafter40.com to help you get started.    No matter what asset allocation model you use, knowing the answers will get you closer to an appropriate mix.

2. Do I look at all my investments together or each account separately when figuring out my allocation? – It depends.  Too many folks lump everything together and end up with a barbell – lots of cash in the bank and lots of aggressive mutual fund holdings in the 401k -and assume they are well-diversified.

Look at your holdings not from an account perspective, but from a goal/time horizon perspective.  It doesn’t matter where you hold it, but when you are going to spend it.  For short-term needs, your allocation needs to be heavily weighted towards cash and safety.  For long-term needs (inside and outside of retirement accounts) you need to shift the weighting toward stocks to outpace inflation.

3. Should I use a software/online calculator or get a  financial planner to help me? – You can do both (another way of saying it depends).  Try some of these online calculators to get a quick feel for the types of questions you should ask yourself and the amount of money you might have in retirement.

These online tools are just a start.  To really understand the right mix for you, talking with a financial planner is best.  They ask more personal & detailed questions, use more sophisticated models and discuss their recommendations.  No online tool can do that.

4. Okay, how do I implement this asset allocation idea? There’s a hard way, an easy way and the middle ground.

Hard – use individual stocks & bonds, buy real estate, own gold bullion and invest in companies overseas.  This takes  a lot of time, research & knowledge.  And usually a fair amount of cash.  But it can be a lot of fun for the right investor.

Easy – buy an Asset Allocation Mutual Fund and be done.

Middle Ground – Use a combination of ETFs and mutual funds to gain exposure to all the asset classes.  All financial planners, most mutual fund companies and many online brokers will identify whether a mutual fund is a small cap, large growth, international, etc.  Be sure to look beyond the description, however, to what the fund actually holds.  Some funds have style drift and some duplicate holdings.

5. Where do I put my new money? It depends.  Most asset allocation models aren’t necessarily perfect overnight.  Once you figure out what your mix should look like, change what you can immediately and then plan for the rest.  This means use your new money to perfect your model OR start to position it for the next phase of life.

So, what would Harry do?

Maybe J.K. Rowling will change her mind and write a Book 8 so we can all find out….

Photo by:  Noel Zia Lee

About the author

Lea Ann Knight, CFP®

Lea Ann is the Principal of Garrison/Knight Financial Planning as well as the creator of the financial literacy site, Financially Fit After 40. She also writes a monthly column as the Money Expert for All You Magazine.

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