With so many people giving you advice about how to invest your money, it can be difficult to keep all the terms, strategies and acronyms straight. Two of the more common phrases new investors often hear are asset allocation and market timing. Understanding the basics of these strategies can help you avoid making costly investment mistakes.
Market timing refers to the risky practice of buying and selling stocks to make a profit in a short time period. It is based on anticipated stock market movements and is characterized by multiple quick trades or buying and selling several times during one trading day. Interest in market timing increases when markets are volatile, as the chance of making money quickly appeals to many -- but predicting the stock market consistently and accurately is extremely difficult (if not impossible) to do.
Asset allocation refers to a long-term investment strategy of building a portfolio by choosing assets from different investment categories including bonds; foreign investments; small-cap stocks in smaller companies with growth potential, and large-cap stocks in well-established, profitable companies. Asset allocation decisions result from the investor's time horizon, risk tolerance and overall financial knowledge. According to an article on the Wall Street Journal's website SmartMoney, a recent study showed that the asset allocation of an investment portfolio accounts for 91 percent of that portfolio's performance.
Tactical Asset Allocation
Tactical asset allocation has features of both classic asset allocation and market timing. Money is moved around between asset classes within a portfolio to improve performance based on what the portfolio or fund manager thinks will happen in the market. This is a more active approach than the traditional buy-and-hold form of asset allocation, but it is a longer-term and more diversified portfolio strategy than market timing.
True tactical asset allocation can be time-consuming and complicated for do-it-yourself investors. Instead, construct a long-term, highly diversified asset allocation portfolio including investments from each of the asset classes. To that end, an asset-allocation mutual fund is a simple choice for many new investors. Consult a financial planner or other investment professional for assistance in selecting a fund or to create a more complex investment portfolio.
A former financial adviser with more than a decade of experience in personal finance and small business banking, Sarita Harbour is a professional writer specializing in personal finance, small business, technology, and content marketing techniques. Her writing appears online at sites such as Yahoo! Homes and Bob Vila. Harbour holds a bachelor's degree in psychology and computer science from the University of Guelph and the Personal Financial Planning designation from the Institute of Canadian Bankers.