To get the right asset allocation, your first step should be deciding how much should be in stocks and how much in bonds. That depends on your temperament, and sometimes it takes a bear market to discover what your temperament really is.
The current bear market has revealed just how much risk tolerance investors really have. Some people look at the past couple of years and say, “I had tremendous returns for the five prior years, so I’m just giving back some of the excess.” They know that they’re still way ahead. If that’s how you react, you have the right temperament for a portfolio that focuses on stocks, where you probably will earn high returns, long-term.
On the other hand, some people feel the pain of seeing their stocks tumble. Those losses seem real to them, even if they’re just a give-back of gains from the past. If you’re in that group you have a lower risk tolerance so you should have more of your money in bond funds or some other type of fixed-income investment. Bonds are likely to lag bonds, over the long term, but that’s the tradeoff for investing in this less-risky asset class.
