A is for Asset Allocation
When there is market turmoil, one of the first things you should examine is how well you have allocated the assets in your retirement portfolio. This is no easy task.
If your 401(k) was properly allocated a year ago, before the economy slowed down, with mutual funds that were focused on growing your money and with your risk tolerance in mind, you will be fine. Fundamentally, not that much has changed.
Smart investors know they need to give their portfolios twelve months to fully utilize the plan. History has shown that with time, many of the imbalances that have a stranglehold on the markets will loosen their grip and things will return to normal.
Hold tight, time will come to the rescue.
What is asset allocation?
How those assets are positioned in your retirement portfolio however is a different matter.
In a retirement plan, asset allocation takes on a different meaning. In your portfolio, you should have basket of mutual funds that focus on different parts of the market. This method of investing protects you from swings in the market that is often specific to one group of investments. The markets rarely fail altogether.
The most recent example of this happened in early 2008 when the stocks of banks and other financial institutions began to falter. The most famous was the failure of technology stocks in 2000. Had you not allocated your assets properly, you would have felt a greater loss than the market as a whole did. Asset allocation protects you from this.
The Right Mix
In order for asset allocation to work, you need to determine two things: your age and your risk tolerance. Age is not so much a reference to how old you are but how far off in the distant or near future your retirement is.
Your risk tolerance is a reference to how much of your investments you are willing to put to the test.
If you are in your twenties, it is generally assumed that you should be the most tolerant of risk, investing in growth mutual funds and able to overcome any short-term problems.
Allocation assets becomes much more important once you reach forty, beginning to temper your risk and protect some of your assets. By age sixty, you should be investing a conservative mix of stocks and bonds.
How to get the Right Allocation
Perhaps the simplest way: invest in target funds that save for a future retirement date. These types of funds gradually change your assets over the years, essentially re-allocating for you.