Asset allocation is one of the most important concepts you must learn as an investor.  By practicing it, you can balance your portfolio against adverse market conditions, keeping more capital in your account so you can take advantage of the market crashes that will happen as an inevitable result of human nature.

That is why I wanted to take a few minutes to teach you about asset allocation, what it is, how you can use it, and some of the various asset classes you may consider for your portfolio.

What Is Asset Allocation and Why Should I Care?

Defined simply, asset allocation is the process of choosing investments based on asset class (stocks, bonds, real estate, works of art, etc.) and then allocating your capital into those investments.  The goal of asset allocation is to design a series of investments that offset each other so that when one is rises in price, the other is falling.

For instance, if a large portion of your net worth consists of real estate, you would not want to invest more of your money in related asset classes such as bank stocks, because a problem with housing prices would hurt both of your investments.  Instead, you may want to own shares of blue chip water utilities or food companies such as breakfast cereal producers such as Kelloggs and General Mills.  At the very least, these types of assets would have little or no correlation with the value of land, houses, or commercial real estate.

Asset allocation allows you, the investor, to protect your money by purposely and wisely selecting assets that will be generating cash or appreciating in value when you need it most due to weakness in your core holdings.  Depending upon the source and nature of your wealth, your age, personality, and preferences, your asset allocation strategy is going to be completely different from other investors, including members of your own family.  A married couple in their seventies with tens of millions of dollars in timber holdings is going to have a vastly different asset allocation strategy than a twenty-something college graduate that has a job, student loans, and wants to save for a house.

What Are Some of the Asset Classes That Can Be Used in Asset Allocation?

There are dozens of different asset classes that may or may not be appropriate for your investing portfolio.  Each has its own characteristics, specialties, risks, and benefits.  Here are just a few examples of asset classes that you may encounter: