4 Rules for Asset Allocation

One of the biggest (if not the biggest) determinants of how well your investment portfolio does is how you divide your assets into various investment vehicles. What percentage do you need in cash, stocks, bonds, real estate, and so on? It's a difficult question to answer for many. But in this piece, the Motley Fool tries to simplify the process into four rules for asset allocation. They are:

Rule No. 1: If you need the money in the next year, it should be in an interest-bearing savings or money market account.

Rule No. 2: If you need the money in the next one to five (or even seven) years, choose safe, income-producing investments such as Treasuries, certificates of deposit (CDs), or bonds.

Rule No. 3: Any money you don't need for more than seven years is a candidate for the stock market.

Rule No. 4: Always own stocks. Even if you're at or near retirement age, stocks can help your portfolio beat the debilitating effects of inflation.

My thoughts:

1. For short-term stashing of cash, I recommend Emigrant Direct.

2. I don't have much (if any) money that I need in the 5-7 year time frame, so I don't invest in bonds, CDs, etc.

3. My investments are long-term, and thus they are built on stocks, much of which is in index mutual funds. Here's more about index fund investing and why I like it so much:

• Getting Rich is Simpler than You Think
• Fund Indexers, Take (Another) Bow
• Expenses, Taxes and Size Matter in Choosing Bond Funds (And Stocks too!)
• Where the Pros Stash Their Own Dough
• The Case for Indexing
• Investment Advice from Someone Who Manages Billions

4. I plan to keep as much money in stocks as possible for as long as possible, then when I know I'll be needing it in a few years, I'll move it down the ladder into bonds and ultimately into cash accounts.

Comments

I used to agree with Rule #2, now I think I would use protected stocks and aim for more upside.

http://www.protectedstocks.com/main/2005/10/chapter_1_struc.html#more

[Bill]

I use CDs to hold a large portion my emergency fund. They are set up as a 5-year ladder. The base of the fund is in a money market. I'm tempted to move from CDs to an index fund, but I'd really rather have the stability CDs afford.

[RICH]

"stocks can help your portfolio beat the debilitating effects of inflation." This is a myth. If you were to look at a chart of yearly SP500 returns and yearly
inflation you would see that stocks go down or sideways in times of moderate to high inflation. 2005 was a good example. Stocks do well during times of low or lowering inflation, the 1990's for example. The brokerage industry doesnt tell you this so as to perpetuate the "buy and hold" methodology.
If one is worried about the effects of inflation, there are Ibonds and TIPS available. The fixed rate still provides some growth. The only reason to buy stocks, mfunds, etc is for growth, to make money. There is a risk premium to be considered tho. Ask those who invested in 2000 how they feel about stocks beating inflation?

[Michael Jaz]

Why would brokers wabt to perpetuate the "buy and hold methodology" ? Seems to me B&H has the effect of minimizing trading (and thus commissions, aka the broker's paycheck). If it's because they want you to keep your money in one place, I would think pushing CDs would be a better vehicle for that end.

I just don't see Rich's argument making sense. I'm not arguing against his thesis (although I don't believe it is correct) but his reasoning is suspect.

jaz