In our experience, investors spend a lot of time focusing on winners and losers amongst individual securities. It is also a popular topic amongst financial publications Fisher Investments UK’s research analysts follow. But in our view, asset allocation—a portfolio’s mix of equities, fixed interest and other classes of securities—has a larger influence on returns and, by extension, whether investors reach their longer-term investment goals.

Our research indicates asset allocation determines the majority of investors’ longer-term returns. Thus, amongst the most important decisions anyone makes as an investor, in our view, is the proportion of their portfolio devoted to different asset classes. To do this, we think an important first step is to outline financial requirements and goals (i.e. what a portfolio is trying to accomplish and achieve), how long the money needs to last and risk tolerance. Defining those clearly can then help you select an asset allocation suited to your situation, based on your assessment of the trade-off between risk and return.

In our view, investors’ specific financial objectives will play a big role in determining their portfolio’s asset allocation. If you require growth, we think equity exposure will be an important consideration. This is because equities’ long-term returns are historically higher than fixed-interest securities’. Of course, future returns won’t necessarily mirror the past. But our research shows that, over the long term, equities’ returns have always beaten fixed-interest securities’ returns. The former’s compounded annual growth rate—the yearly rate required to reach its ending value from inception—is 10.9%, whereas the latter’s is 6.0%.i

However, our research also shows the price for equities’ historically higher returns is their short-term volatility. Those unpredictable fluctuations can make it difficult to plan withdrawals if you have known expenses you fund with your portfolio. Depending on the situation, we think fixed-interest securities and their relatively milder short-term fluctuations are worth considering. Blending fixed-interest securities with equities can help dampen portfolio volatility, in our experience, to help reduce the impact of taking withdrawals after the market has dropped.

So, what is the right mix for you? Do you require long-term growth, short-term cash flow or some combination of both? We think the decision flows from your own unique financial circumstances, time horizon, expected expenses and risk tolerance. To determine the asset allocation most likely to meet your growth and cash-flow requirements, we have found it helpful to consider how a portfolio constructed based on your envisioned inputs would fare under multiple scenarios, including past extremes. By using historical market data as a guide, investors can test how their asset allocation—and ability to reach their investment goals—would hold up under widely varying market environments.

Now, if life circumstances change—for example, in the event of a marriage or a divorce, a birth or a death—updating your asset allocation may make sense. But absent a major change, sticking with your asset allocation helps keep your portfolio on a path toward your financial goals, in our view. For example, the allure of high returns in niche investments could tempt you into chasing heat—buying an investment for its past returns, after it has run up and likely attracted a lot of attention. But we think it is worth asking how that investment would fit into your asset allocation. If it doesn’t, then it may not be for you. Or, perhaps there has been a rocky stretch in markets. Knowing your portfolio is designed to withstand such volatility, presuming you have factored that into your asset allocation, can prevent you from making rash decisions at inopportune moments, knocking you off course.

When times seem most precarious, a clear-eyed, thought-through plan can help you stay cool and steer you clear. The future may be uncertain, but proper asset allocation gives you a map to chart a route toward your preferred financial destination.

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Fisher Investments Europe Limited, trading as Fisher Investments UK, is authorised and regulated by the UK Financial Conduct Authority (FCA Number 191609) and is registered in England (Company Number 3850593). Fisher Investments Europe Limited has its registered office at: Level 18, One Canada Square, Canary Wharf, London, E14 5AX, United Kingdom.

Investment management services are provided by Fisher Investments UK’s parent company, Fisher Asset Management, LLC, trading as Fisher Investments, which is established in the US and regulated by the US Securities and Exchange Commission. Investing in financial markets involves the risk of loss and there is no guarantee that all or any capital invested will be repaid. Past performance neither guarantees nor reliably indicates future performance. The value of investments and the income from them will fluctuate with world financial markets and international currency exchange rates.

i Source: FactSet and Intercontinental Exchange, Inc., as of 15/07/2021. MSCI World Index with net dividends, 31/12/1969–30/06/2021, ICE BofA Sterling Broad Market Index, 31/12/1996 – 30/6/2021.