Should Net Worth Affect Asset Allocation?

To many, time horizon and risk tolerance are the only two factors to take into consideration when determining your asset allocation, but I prefer a more holistic approach. In reality, there are many other factors that can and should affect your asset allocation, not the least of which being how much money you already have and last but not least, your investing goals.

What Are Your Goals?

I feel your individual goals should be the main determinant in your asset allocation. For example, say you already have a $500,000 portfolio and your goal is a $1,000,000 portfolio in 15 years (whether or not that’s a wise goal I’ll leave as an exercise to the reader). In this situation, you only need an annual compounded return of 4.73% to reach your goal. You could probably achieve this sort of return by allocating the vast majority of your portfolio to government bonds. You probably don’t need to take any equity risk at all.

How Much Risk To Reach Your Goals?

This is an example of the interplay between risk tolerance and risk avoidance. While your risk tolerance may allow for a much, much higher exposure to equities, your goals don’t require it. So long as your goal remains the same, there is no reason to invest in equities. That said, it might also be wise to take a hard look at your goal and decide whether or not it is too conservative, but that’s a debate for another day. The point is, asset allocation decisions cannot be made in isolation from your personal goals and current financial situation. Your current net worth should affect your asset allocation strategy since it determines how much risk you’ll need to take to reach your goals. Don’t be afraid to devise an asset allocation strategy that differs drastically from what everybody else says it should be. After all, nobody’s situation is exactly like yours.