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C. David Tolson III
When discussing asset allocation, most folks often think about the mixture between stocks, bonds and cash in their portfolio.
While this is not necessarily wrong thinking, asset allocation is more complicated than simply picking the appropriate pie-chart or Morningstar style box.
As a financial advisor, I spend much of my time managing the risk associated with a client’s investments.
An important part of minimizing portfolio risk is to find asset classes that have a low correlation to one another.
In other words, if two different investments always move in the same direction, then we have not done anything to decrease risk in the portfolio by owning both.
The only thing we gain is a false sense of diversification by investing in more than one asset.
One way to effectively lower the risk of your overall portfolio is by using alternative investments.
An alternative investment is simply defined as an asset that does not fall into the standard categories of stocks, bonds or cash.
The reason we add these alternatives to an account is because their returns have little or no correlation to those of stocks or bonds.
The most commonly used alternative investments include commodities (oil, gold and silver) and real estate.
More complicated alternative investments include hedge funds, managed futures and foreign currencies, etc.
Properly allocating a portion of one’s portfolio to alternative strategies could help smooth out the bumps of continued volatility in the stock market. It also helps immunize a bond portfolio from an inevitable rise in interest rates.
In the past, alternative investments were reserved more for institutional or highly sophisticated investors.
However, they are lately becoming more available to the average investor through more traditional means, such as mutual funds and exchange traded funds (ETFs).
While I feel that alternatives can help reduce a client’s overall risk exposure, every investor’s situation must be treated differently.
Careful consideration should be used in deciding is alternative investments are an appropriate addition to your portfolio.
C. David Tolson III is a financial consultant with Investment Services, a department of Founders Federal Credit Union.
Securities and investment advisory services offered through Financial Network Investment Corp., member SIPC. Founders Federal Credit Union and Financial Network are not affiliated. Not NCUA-insured, not a deposit, may lose value, no credit union guarantee, not insured by any federal government agency.