The Role of Bonds in Your Portfolio

An investment portfolio can be broadly divided into three major asset classes: stocks, bonds, and cash.

Cash refers to relatively liquid financial instruments, such as checking accounts, money markets, and CDs. Cash accounts have the lowest expected returns of the three asset classes. They can be used for daily living expenses and for your emergency fund. However, cash should generally be minimized in your long-term investment portfolio because it puts a drag on expected future returns.

Bonds have risk and return characteristics that fall somewhere between cash and stocks. As an asset class, bonds are safer (less risky) than stocks, but they offer lower expected returns. Aggressive investors therefore favor portfolios that are heavily weighted in stocks, while conservative investors prefer bonds. Most people are best served with a combination of the two.

In designing your portfolio, the relative proportion of stocks and bonds should be tailored to your personal characteristics and circumstances. If you are investing for the long haul and have a high risk tolerance, a heavy weighting in stocks may be appropriate. Any portfolio with greater than 60% stocks is considered relatively aggressive. If you are risk-averse, you should probably choose a higher percentage of bonds.

Your optimal portfolio will also be influenced by your personal financial circumstances. For example, bonds can be used to provide income through periodic coupon payments. If you depend on investment income for living expenses, you may need to increase the proportion of bonds in your portfolio.

Choosing the percentage of stocks and bonds in your portfolio is one of the most important investment decisions you will make. It involves a careful assessment of your risk tolerance and investment goals. If you are interested in learning more about your investor profile and risk tolerance, please click on Questionnaire. We would be happy to analyze your results and suggest an asset allocation plan for you. This service is provided without charge or obligation.

January 1, 2002

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