What Is Strategic Asset Allocation?

Definition & Examples of Strategic Asset Allocation

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Strategic asset allocation is an investing strategy that helps you determine what percentage of your assets should be in stocks, bonds, and cash. It is a static allocation that trusts in the market over individual impulses.

Learn how strategic asset allocation works and whether it's the right choice for your investments.

What Is Strategic Asset Allocation?

Strategic asset allocation is an investing strategy. It requires you to determine how much of your money should be invested in broad categories of investments, such as stocks or bonds, along with investment sub-categories, such as U.S. small-cap and mid-cap stocks.

Once you have decided upon an allocation, you stick with that allocation for many years. The goal of strategic asset allocation is to work steadily toward a financial goal and avoid making emotional short-term decisions based on current market events.

Investors use asset allocation as a way of diversifying their portfolio.

This traditional approach is based on Modern Portfolio Theory, which posits that markets are efficient. Rather than trying to "bet" on financial trends, you should establish a fixed allocation to take advantage of the built-in efficiency of the market.

How Strategic Asset Allocation Works

If you're not sure what mix of investments to choose, and in what percentage, you can use an online risk questionnaire and calculator to see a sample of a strategic asset allocation plan based on your answers to the risk questions.

For example, an allocation recommendation might suggest that you have 70% stocks/20% bonds/10% cash or 60% stocks/40% bonds. You might see such an allocation referred to as a “70/20/10” portfolio or a “60/40” portfolio.

In general, the greater your risk tolerance, the more aggressive you can be. This means putting more money into stock if your investment objective is to maximize long-term growth.

Once you determine your asset allocation strategy, re-balance it on a pre-determined basis (annually, for example) to restore the original allocation.

For example, say you developed an asset allocation that targets 60% stock and 40% bonds but 70% of your portfolio consists of stocks. Under a strategic asset allocation approach, even if stocks are performing well at present, you should sell the excess 10% in stocks in order to bring your stock allocation back down to the target percentage of 60%. You should then reinvest the proceeds into bonds.

This is because the strategic asset allocation approach involves sticking with your original allocation over long periods of time rather than reacting to what is currently occurring in the markets.

If you obtain information that warrants a change in the allocation itself, it's acceptable to change it and then stick to it. A strategic asset allocation is an approach for keeping you on track with your investment goals regardless of market whims, but it can be adjusted.

Strategic Asset Allocation vs. Tactical Asset Allocation

Strategic asset allocation takes a more passive approach to investing, whereas tactical allocation involves more actively managing a portfolio. The best asset allocation strategy for you depends on your investing style.

Strategic Asset Allocation Tactical Asset Allocation
Hands-off approach Greater level of control
Buy and hold strategy Involves trading often
Good for long-term time horizon Short-term or medium-term time horizon
Limited investing experience More investing expertise
Better for emotional investors  

When a Strategic Asset Allocation Works

  • You prefer a hands-off approach: With this approach, you purchase investments in a certain mix and only rebalance them (buy some and sell others) when the allocation diverges from that mix.
  • You want to buy and hold: You'll purchase investments and keep them over the long term. This means you seldom have to move money around or incur the associated transaction fees.
  • You have a long time horizon: The longer you have until you need the money in your portfolio, the more appealing a strategic asset allocation is since there is still plenty of time for the market to recover from potential downturns.
  • You have limited investing experience: This strategy requires research but doesn't require deep insights into market trends. You may want to choose this approach if you don't have the experience needed to act on ongoing market events.
  • You're an emotional investor: A strategic asset allocation forces you to adhere to your original asset allocation no matter what the market brings.

When A Tactical Asset Allocation Works

  • You want greater control: If you don't necessarily trust in the market to steer your investments in the right direction, this asset allocation strategy may be a better option.
  • You're willing to trade often: The opposite of a buy-and-hold strategy is a trading approach where you don't simply stick to your original investment choices over a period of years. Instead, you monitor them on an ongoing basis and act on investment opportunities as they arise. This may result in moving around money frequently, which can incur higher transaction fees.
  • You have a short- to medium-term time horizon: A tactical approach may be more suited for money in a regular investment account that you're looking to grow in the short term rather than for a defined long-term goal.
  • You have more expertise: If you have a lot of insight into the market and know how to prudently act on changes, this option may appeal to you. But there are no guarantees you will get better results than with a strategic asset allocation.

Many financial managers use a combination of strategic and tactical asset allocation to increase both the stability and flexibility of their funds.

Do I Need Strategic Asset Allocation?

Your investing strategy will depend on a number of factors, including:

  • The timeline for your investing goals
  • Your risk tolerance
  • Your comfort with investment decisions

The strategic asset allocation is an ideal choice for the typical buy-and-hold investor who may not have extensive investing experience but wants a hands-off approach to saving for the long-term goal of retirement. Investors who prefer to actively manage their investments over a shorter period of time should consider a tactical asset allocation strategy.

You may have the same risk tolerance your whole life, meaning that your comfort with volatile markets now may not change as you age. Even so, as the time approaches to withdraw funds from an investment account, you may want to reduce your exposure to risk because you have less time to recover investment losses during a downturn.

For example, investors usually transition to a more conservative investment allocation strategy as they near retirement, allocating more of their portfolio to bonds and less to volatile stocks.

If you are unsure whether a strategic asset allocation is right for you, consult with a financial adviser.

How to Get a Strategic Asset Allocation

Follow these steps to assemble a portfolio that suits your investor profile.

Determine Your Risk Tolerance

This is the amount of volatility you are willing to tolerate. If you can remain calm when the market is falling, you can be more aggressive by putting more money into stocks. If you tend to get jumpy during a downturn, you may want to invest more conservatively through more bonds or cash.

Consider Your Time Horizon

How long do you plan to hold investments? If you don't anticipate needing your invested money for an extended period of time, you can be more aggressive. In general, the longer your time horizon, the less disturbed you should be by the high volatility that accompanies a more aggressive allocation.

Know Your Objectives

Is your goal to achieve capital growth, fixed income, or a mix of the two? Growth generally requires a more aggressive investment allocation, while income calls for a more conservative approach.

Determine Your Allocation

Asset classes include cash, bonds, or stocks. Look at the long-term expected returns and risk level of each asset class when deciding on the target percentage for each class. Stocks are the riskiest, bonds are less risky, and cash is the least risky. The higher the risk, the greater the potential for both growth and loss.

Break Down Each Asset Class

Stocks, for example, can be broken down into large-cap, small-cap, U.S., international, and emerging markets, to name a few sub-categories.

Develop a Plan

Assign a target percentage allocation for each underlying category—for example, 10% to U.S. small-cap stocks.

Purchase Funds

You can buy multiple individual funds that cumulatively achieve your planned allocation. You also can buy a balanced mutual fund, which includes stocks and bonds in a single fund, usually at fixed percentages (for example, 60% stock/40% bonds). Many 401(k) plans also offer "model" portfolio allocations that do the work for you.

Key Takeaways

  • Strategic asset allocation is an investing strategy that helps you determine what percentage of your assets should be in stocks, bonds, and cash.
  • Once you have decided upon an allocation, you stick with that allocation for many years, rebalancing when necessary.
  • Strategic asset allocation takes a more passive approach to investing, whereas tactical allocation involves more actively managing a portfolio.
  • Many investors use a combination of strategic and tactical asset allocation.

The Balance does not provide tax, investment, or financial services and advice. The information is being presented without consideration of the investment objectives, risk tolerance or financial circumstances of any specific investor and might not be suitable for all investors. Past performance is not indicative of future results. Investing involves risk including the possible loss of principal.