What is asset allocation?

Driving growth: The strategic role of stocks in diversified portfolios

Stocks have the potential to generate greater returns compared to other asset classes, like bonds or cash. This typically makes them the main driver of your portfolio's growth. But stocks also carry more risk. When market volatility occurs, it can lead to sharp, sudden increases or decreases in stock value. Investors with a longer time horizon and the discipline to stay invested during periods of volatility can benefit from the higher, long-term growth potential stocks offer.

While stocks have historically offered higher average returns over time compared with bonds and cash, they come with more downside potential, especially over shorter time frames. Diversifying across stocks by market capitalization—which is a way of measuring a company's size and market share, such as small-cap, mid-cap, or large-cap—can help balance the higher growth potential of smaller companies and geographical regions with a greater relative financial stability of larger companies and more mature economies.

How much of your portfolio should be allocated to stocks? If you have decades until retirement, you can take advantage of stocks' long-term growth potential because you'll have time to ride out market downturns. As retirement nears, you'll want to include stocks in your portfolio but with a smaller allocation than younger investors.

Allocating a portion of your portfolio to stocks can also help you address a few common challenges, like longevity risk and inflation risk. Longevity risk refers to the possibility of outliving your savings. Stocks can give your money the growth potential needed to last even a longer-than-expected lifetime. Inflation risk is the potential that your purchasing power can be reduced over time as prices rise. Stocks have the potential to grow faster than inflation.

Understand more about the role of stocks in your asset allocation. Visit troweprice.com/assetallocationplanning to ensure your mix of investments aligns with your goals.

Balancing risk: Incorporating bonds into your portfolio

Bonds can lessen the overall risk in a diversified portfolio, offering a regular stream of income that helps to balance the riskiness of stocks. While bonds aren't immune to short-term losses, they are considered an essential asset class because of the income and balance they offer compared to riskier growth-oriented stocks. They also can help investors accomplish goals like providing regular income, enjoying generally higher yields than cash, and creating potentially tax-free income in some cases.

While bonds may have a place in your portfolio at any age, they can become especially important as you move closer to retirement. When your time horizon to a certain goal like retirement shortens, your portfolio has less runway to recover from the ups and downs of the stock market. As you near retirement, your asset allocation should gradually shift from growth-oriented stocks to less volatile investments, such as income-oriented bonds.

Bonds can offer relative stability and income. For investors concerned with how market movements will affect their portfolio's value when they need it most, these benefits can make bonds especially attractive. Understand more about the role of bonds in your asset allocation. Visit troweprice.com/assetallocationplanning to ensure your mix of investments aligns with your goals.

Creating stability: Incorporating cash into your portfolio

Cash tends to be a portfolio's most stable asset compared to stocks and bonds, but it typically does not offer much growth potential. Instead, cash offers liquidity and stability, while stocks generally serve as the primary driver of a portfolio's growth and bonds create opportunities for income. Aside from physical bills and coins, cash can be held in different places, including checking accounts, savings accounts, and money market accounts.

Because cash is highly liquid and considered the most conservative asset class, it involves little risk and tends to yield little in the way of returns. If you're still decades away from retirement, there's a cost to holding excess cash. Not only does it mean missing out on long-term growth opportunities, but it can also expose your portfolio to inflation risk.
With the appropriate allocation, cash plays a very specific role in your portfolio. The closer you get to retirement, the more important cash becomes. Cash can help to cover short-term expenses, pay for unexpected emergencies, and reduce the need to sell stocks or bonds in a down market.

Understand more about the role of cash in your asset allocation. Visit troweprice.com/assetallocationplanning to ensure your mix of investments aligns with your goals.