What asset allocation is
Asset allocation is the split of your portfolio among major asset classes: stocks, bonds, cash and sometimes others such as real estate or commodities. A portfolio of 60% stocks and 40% bonds is a classic example. The split matters more to your overall risk than which individual stocks you pick.
How people choose a mix
The inputs are your time horizon and risk tolerance. More stocks mean more growth potential and bigger drops. More bonds and cash mean steadier results and lower expected growth. Target-date funds choose and adjust a mix for you.
Why drift happens
Say you start at 60% stocks and 40% bonds with 100,000 dollars. Stocks rise 20% and bonds stay flat: stocks are now 72,000 and bonds 40,000, so stocks are about 64% of 112,000. The portfolio is riskier than you planned, without you doing anything.
Rebalancing
Rebalancing means selling some of what has grown and buying what has lagged to restore your target. In the example you would move about 4,800 dollars from stocks to bonds. It feels backward, since you trim winners, but it keeps risk where you intended.
Ways to rebalance
- On a schedule: once or twice a year.
- By threshold: when any asset class drifts a set amount, such as 5 percentage points.
- With new money: direct contributions to the underweight asset, no selling needed.
Watch the taxes
In a taxable account, selling winners can trigger capital gains tax. Rebalancing inside an IRA or 401(k) avoids that. Funds that rebalance for you remove the chore.
Quick answers
How often should I rebalance?
Studies and practitioners differ, and any sensible, consistent rule works better than none. Once a year is common.