How to Distribute Assets for a Better Return

How to Distribute Assets for a Better Return

Posted by on Apr 20, 2022

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Asset allocation, also called asset distribution, is a measure of how the breadth of your investment portfolio is spread among varying asset classes. The goal of asset allocation, also called portfolio diversification, is to maximize expected returns for a given level of risk.

Risk is an inherent element of investing, regardless of the asset class -- there is no such thing as a 100-percent “safe” investment. Investments that offer the highest potential for return, such as startup equity funding, alternatives and initial public offerings, also tend to bring the greatest amount of risk. Conversely, investments such as treasury bills, money market funds, and municipal bonds offer lower returns for the tradeoff of a much lower risk that you’ll somehow lose your investment capital.

The redistribution of assets within your portfolio to potentially increase returns while managing risk is part of a concept called Modern Portfolio Theory (MPT). Below we’ll take a look at the core tenets of MPT, as well as how investors can examine a redistribution of their investment assets in an attempt to increase diversification and manage risk versus expected returns.


What Is Modern Portfolio Theory?

There are three main tenets of Modern Portfolio Theory:

  • Potential returns are directly correlated to the level of risk involved. Greater risk equals greater returns.
  • Your portfolio’s overall risk and return profile outweighs that of any single investment.
  • A diversified portfolio consisting of non-correlated assets can help manage risk and maximize expected returns.

In other words, investors who adhere to the concept of Modern Portfolio Theory strive to craft an investment portfolio of diverse, non-correlated investments and assets that provide a balance between risk and return. While MPT is most often applied to diversification of publicly traded securities, the strategy also can be used by professional and retail real estate investors.


Reallocating Real Estate Assets to Manage Risk Versus Expected Returns

If there were an off-the-shelf formula for distributing real property assets to increase returns while keeping risk within tolerable levels, then every real estate investor would likely become the next Warren Buffet.

Truth is, there’s no magic formula for “correct” asset allocation because each asset class comes with its own inherent levels of risk and return -- investing in an apartment complex or funding a startup doesn’t have the same risk factors and return parameters as investing in publicly traded stocks or U.S. Treasury notes. Similarly, every investor brings to the table his or her own tolerance for risk, as well as investment capital and expectation for returns.

Time, or investment horizon, also plays a huge role in investment decisions. Investors who can financially sustain longer hold times with their investments have the ability to pursue longer-term investments, while investors that require more liquidity with their investment capital often pursue shorter-term investments.


The Bottom Line

Modern Portfolio Theory has historically been applied mainly to publicly traded securities, but the principles of mixing investment assets by class and geographical location can also help provide increased balance and diversity to a portfolio of real estate investments.

Finding the suitable mix of asset allocation is a unique formula for each investor. Factors such as age, net worth, risk tolerance, and other pressures impact each investor’s investment allocation decisions. Consulting with certified financial professionals can help you gain a clearer understanding of how to potentially redistribute the assets in your portfolio to manage risk versus expected returns.

 

This material is for general information and educational purposes only. Information is based on data gathered from what we believe are reliable sources. It is not guaranteed as to accuracy, does not purport to be complete and is not intended to be used as a primary basis for investment decisions. It should also not be construed as advice meeting the particular investment needs of any investor. Consult with your tax advisor regarding your individual circumstances. Neither Asset Allocation nor Diversification guarantee a profit or protect against a loss in a declining market. They are methods used to help manage investment risk. All investments have the potential to lose value during the life of the investment. There is no guarantee that the investment objectives of any particular program will be achieved. Risk tolerance is an investor's general ability to withstand risk inherent in investing. There is no guarantee a recommended portfolio will accurately reflect your tolerance to risk.

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