What is asset allocation?

Asset allocation is the process of dividing your investments among different asset classes, such as stocks, bonds, and cash, to balance risk and return based on your financial goals, risk tolerance, and time horizon.

Should I invest in stocks or bonds?

The choice between stocks and bonds depends on your financial goals, risk tolerance, and time horizon. Stocks are better for long-term growth but come with higher risk, while bonds offer stability and predictable income, making them ideal for conservative investors or short-term goals.

How do I calculate my blended return from stocks and bonds?

You can calculate your blended return by combining the weighted returns of stocks and bonds based on your allocation percentage. Use our interactive simulator to adjust allocations and see how it impacts your overall return.

What are multi-asset funds?

Multi-asset funds combine stocks, bonds, and other asset classes into a single professionally managed portfolio. They are ideal for investors seeking diversification and automatic rebalancing without managing individual investments.

How often should I rebalance my portfolio?

You should rebalance your portfolio at least once a year or whenever your allocations deviate significantly from your target. Multi-asset funds can simplify this process with automatic rebalancing.

OPTIMLY Guides | Stocks or Bonds Guide

Choosing between
stocks and bonds

Reaching your financial goals requires more than just setting a target - it's about having a clear plan to get there.

This guide will help you figure out how to plan effectively by setting a budget and calculating how long it will take to reach your target. With this step-by-step approach, you'll be better prepared to map out your financial journey and stay on track.

1. Stocks and shares overview

Stocks, also known as shares or equities, represent partial ownership in a company. When you purchase a stock, you become a shareholder, giving you a claim on a portion of the company's assets and profits.

Return from stocks

People invest in stocks for two main reasons:

Growth potential: - Stocks provide an opportunity for significant capital appreciation. As a company grows and becomes more profitable, its stock value often rises, allowing investors to sell at a higher price than they paid.
Dividend income: - Many established companies share their profits with shareholders through dividends, offering a steady income stream alongside potential price growth.

Why invest in stocks and shares?

Stocks are an appealing choice for individuals aiming to grow wealth over the long term. They have historically outperformed bonds or savings accounts. Here are some common use cases:

Retirement planning: - Over decades, stocks can significantly grow wealth, making them a cornerstone of many retirement portfolios.
Building net worth: - For those focused on increasing their financial assets, stocks offer higher potential returns compared to other investments.
Having a stake in a company: - Owning stocks gives you partial ownership of a company and sometimes a voice in its decision-making through voting rights (though minimal for most individual investors).

Risks and considerations

While stocks offer high potential returns, they also come with risks. Market fluctuations, economic downturns, and company-specific issues can lead to significant losses. It is important to diversify your investments and match your strategy to your financial goals and risk tolerance.

2. Bonds overview

Bonds, also referred to as fixed-income investments, are essentially loans that you, as an investor, provide to a company, government, or other entity. In return, the issuer agrees to repay your loan with interest, offering predictable income and capital stability.

Return from bonds

When you invest in bonds, you are lending money to the issuer in exchange for:

Interest payments or returns: - Most bonds pay periodic interest, known as "coupon payments," providing a steady income stream. Some bonds, like zero-coupon bonds, do not pay interest but are issued at a discount and repay the full face value at maturity.
Repayment of principal: - At the bond's maturity date, the issuer repays the amount you initially invested (the principal).

Why invest in bonds?

Bonds are typically chosen for their stability and lower risk compared to stocks. They are ideal for:

Steady income: - Bonds provide predictable cash flow, making them suitable for those seeking reliable earnings.
Risk management: - Bonds are less volatile than stocks, offering stability during market downturns.
Capital preservation: - Bonds can protect your investment, particularly in short-term or conservative portfolios.

Risks and considerations

While bonds are generally considered safer than stocks, they are not without risks. One significant risk is , which can impact the market value of bonds you hold.

Another important factor to consider is This is especially relevant when investing in bonds with lower credit ratings. Additionally, there is , which can erode the value of your fixed-income returns over time.

3. Expected returns

The returns on individual stocks or bonds can vary widely depending on the specific company or issuer, economic conditions, and market factors. Investing in single holdings offers the potential for but this comes with higher risk and variability.

Stocks and shares

When investing in individual stocks, returns depend heavily on the performance of the underlying company. Historically, the long-term average annual return for stocks has been around .

When calculating future potential value, because investment returns are uncertain, we typically use three scenarios of projected growth: high (8%), mid (5%), and low (2%). These scenarios help account for the variability and risk associated with stock investments.

Key factors to consider include:

Potential for high returns: - A successful company can see exponential stock price growth, particularly in high-growth sectors like technology or renewable energy.
Significant risk: - Individual stocks can lose value rapidly due to company-specific challenges such as poor earnings, management issues, or market competition.
Dividend payments: - Certain stocks, typically from established companies, pay regular dividends, providing income in addition to potential price appreciation.

Bonds

Returns from bonds depend on the issuer's creditworthiness and market conditions. Bond funds have historically delivered average annual returns of , while individual corporate bonds can pay coupons as high as 10%+. Here's what to expect:

Fixed income: - Bonds generally pay predictable interest payments (coupons). Zero-coupon bonds provide all returns at maturity.
Issuer-specific risk: - Corporate bonds from lower-rated issuers (junk bonds) offer higher yields but come with greater risk of default.
Sensitivity to interest rates: - Rising interest rates can reduce the market value of existing bonds, particularly long-term bonds.

4. Bonds vs shares: comparison

This table highlights the key characteristics, risks, and potential returns of bonds and shares to help you determine which aligns best with your investment strategy.

	Bonds	Shares
Definition	Loans to a company or government.	Ownership in a company.
Payoff	Fixed interest payments (coupons) and repayment of principal at maturity.	Capital appreciation through price increases and, in some cases, dividend payouts.
Risk level	Lower Generally lower risk, especially for government bonds or highly rated corporate bonds.	Higher Higher risk due to price fluctuations, company performance, and broader market conditions.
Time Horizon	Best for short to medium-term goals or steady income needs.	Best for long-term goals where market volatility can be balanced over time.
Expected return	2 to 7% Safer bonds, like government bonds, generally offer lower returns, while riskier options, such as corporate or junk bonds, provide higher potential returns.	5 to 8% 5 to 8% is a long-term average for a mature, well-diversified portfolio of stocks with medium to high risk. Returns can vary significantly depending on market conditions and the companies included.
Volatility	Low Bond prices fluctuate less frequently than shares, primarily influenced by interest rate changes and credit ratings. However, bonds can still become worthless in cases of default.	High Stock prices can change rapidly due to market and company-specific factors. Investors holding individual stocks should be aware that prices can fall to zero if the company goes bankrupt.
Income	Regular and predictable through interest payments.	Irregular, typically from dividends if the company chooses to pay them.
Good for	Income-seekers: Regular cash flow from interest payments.	Growth-focused investors: Price appreciation over the longer-term.

5. Diversification

Summarising from previous sections, bonds are generally considered safer investments (though their safety depends on their credit rating and issuer) and tend to offer lower returns. In contrast, stocks carry higher risk but offer the potential for greater returns over the long term.

Whether investing in stocks or bonds, holding single investments exposes your portfolio to significant risks tied to the performance of those individual assets. For example, a company's poor performance or a bond issuer's default could heavily impact your overall returns.

Diversification reduces these risks by distributing your investments across multiple assets, industries, and geographical regions, creating a more balanced and resilient portfolio.

Within stocks, diversification involves investing across sectors, for example technology, healthcare, and consumer goods, as well as across geographical regions. Similarly, with bonds, you can diversify by choosing a mix of issuers - governments, and corporations - and varying credit ratings and maturities.

6. Investment funds

Building a well-diversified portfolio on your own can be time-consuming and expensive. It often requires holding a large number of individual stocks or bonds, which increases trading costs, and spending significant time researching and managing your investments. For those seeking a simpler, cost-effective solution, investment funds offer a practical alternative.

Investment funds such as mutual funds and exchange-traded funds (), are versatile investment vehicles that come in many forms, catering to a wide range of goals and preferences. Some funds focus on specific asset classes (stocks, bonds, or commodities, for example) while others provide exposure to alternative investments like real estate through Real Estate Investment Trusts (REITs). There are also niche funds targeting particular industries, regions, or themes, such as technology, healthcare, or sustainability.

Investment funds make diversification more accessible as they pool money from multiple investors, reducing costs for individual investors and providing exposure to a broader range of assets.

Reduced trading costs: - Funds pool investments from many investors, spreading transaction fees across the group.
Fractional ownership: - Investors can access portions of high-value securities they might not afford individually.
Professional management: - Funds are managed by experts who use advanced techniques like securities lending, hedging, or options trading to optimise returns or manage risks.
Convenience: - Funds simplify the process of diversification by offering ready-made portfolios tailored to different investment goals.

7. Asset allocation

Asset allocation is the strategy of dividing your investments across different asset classes (e.g. stocks, bonds, real estate etc) to build a portfolio that balances risk and return. By spreading your investments, asset allocation helps reduce the impact of volatility in any one asset class, creating a more resilient portfolio over time.

Each asset class behaves differently under various market conditions. Stocks are generally associated with higher growth potential but come with greater risk and price volatility. Bonds offer stability and predictable income, although they typically deliver lower returns.

Asset allocation is not about reacting to market events or chasing trends. Instead, it is a proactive approach to building a portfolio that aligns with your financial goals, risk tolerance, and investment time horizon. For example, during economic downturns, bonds might outperform stocks due to their stability, while real estate can offer a hedge against inflation or market volatility.

Multi-asset funds

Multi-asset funds simplify the process of asset allocation by combining stocks, bonds, and sometimes other asset classes into a single professionally managed portfolio. These funds are particularly attractive for investors who prefer a hands-off approach to portfolio management but still want balanced exposure across different types of investments.

Balanced risk and return: - Multi-asset funds combine the growth potential of equities with the stability of fixed-income securities, making them suitable for a wide range of investment objectives.
Automatic rebalancing: - Professional managers ensure that the fund maintains its target asset allocation by regularly rebalancing Rebalancing is the process of adjusting the proportions of different asset classes in a portfolio to ensure they remain aligned with the target allocation. This is done by buying or selling assets as their values change due to market fluctuations. holdings as market conditions evolve.
Convenience and accessibility: - These funds provide an all-in-one solution, eliminating the need for individual investors to manually allocate and rebalance their portfolios.

8. Building your investment portfolio

Your portfolio allocations should be aligned with your financial goals, the time frame in which you want to accomplish those goals, and your risk tolerance. Taking these three factors into account will give you the best chance of having the amount of money you need when you need it.

i. Identify your financial goals

Start by identifying your investment objectives. Are you saving for retirement, buying a home, or funding a child's education? Each goal may require a different asset allocation.

Short-term goal (1 to 5 years): - Focus on stability, favoring cash savings or fixed-income.
Long-term goals (5+ years): - Consider investing this money. All other things being equal, emphasize growth by allocating more to stocks.

ii. Assess your risk tolerance

Risk tolerance is your ability and willingness to endure market volatility. Figuring out your risk tolerance isn't easy, and it can change over time, just like other aspects of your life. Learn more about assessing your risk in our: risk tolerance guide.

Conservative risk tolerance: - If market fluctuations make you uneasy, lean toward a more conservative allocation with a higher percentage in bonds.
Aggressive risk tolerance: - If you're comfortable with short-term ups and downs for the potential of higher returns, consider a growth-oriented allocation with more equities.

iii. Consider your time horizon

Your time horizon, often tied to your stage of life, plays a crucial role in shaping your investment strategy. A longer time horizon provides the flexibility to take on higher equity exposure, as there is more time to navigate market fluctuations and recover from potential downturns.

When you have many years ahead to remain invested, the impact of short-term volatility diminishes, allowing your assets to compound and benefit from market growth. As you approach the point where you will need to access your investments, a more balanced or conservative allocation may be prudent to protect accumulated wealth.

iv. Choose your asset allocation

Asset allocation involves deciding the percentage of your portfolio to allocate to different asset classes like stocks, bonds, and cash. A balanced allocation should reflect your financial goals, risk tolerance, and time horizon. For example:

Growth-focused allocation: - A portfolio with 80% stocks and 20% bonds might suit someone with a high risk tolerance and a long time horizon.
Conservative allocation: - A portfolio with 40% stocks and 60% bonds might suit someone closer to needing their investments.

v. Pick your investments

Once you've determined your asset allocation, the next step is selecting the specific investments for your portfolio. With a wide variety of options available, it's important to focus on those that align with your financial goals and risk tolerance.

If you're building your own portfolio, consider individual stocks and bonds to create a tailored mix of investments. For those who prefer a more straightforward approach, funds like mutual funds or ETFs can provide ready-made options with broad diversification.

To help you decide, check out our what to invest in page for detailed guidance on choosing investments that work for you. By making thoughtful, informed choices, you'll lay the foundation for a portfolio that supports your financial objectives.

vi. Revisit and rebalance regularly

Asset allocation is not a one-time decision. Over time, the performance of different investments will vary, potentially causing your portfolio to drift from its target allocation. To keep your portfolio aligned with your financial goals, it's essential to revisit and rebalance regularly.

Rebalancing involves adjusting your portfolio by selling investments that have grown beyond their target allocation and redirecting funds to those that have fallen below it. Alternatively, you can add new money to underperforming asset classes to bring your portfolio back in line with your desired allocation.

For simplicity, consider these approaches:

Rebalance annually: Review your portfolio once a year and adjust only when allocations deviate significantly. This ensures you maintain balance without over-trading.
Use multi-asset funds: These funds automatically rebalance for you, offering a hands-off way to stay aligned with your target allocation.

9. Example portfolios

Tailoring your asset allocation to your unique needs and preferences helps you achieve a balance of growth and stability aligned with your financial goals.

Many leading investment management companies, such as BlackRock, Vanguard, and Fidelity, offer multi-asset funds designed to simplify asset allocation and are an excellent option for hands-off investors seeking diversified portfolios. These funds are typically categorised into risk profiles, such as conservative, balanced, and adventurous, and are often available with allocations like 20%, 40%, 60%, 80%, and 100% equity. They may have different names depending on the provider but serve similar purposes.

Funds can be reserched through tools like the Morningstar Fund Screener and purchased through brokers.

Morningstar Category	Equities (%)	Bonds (%)	Risk (Low > High)	Expected Return	Investment Ideas
GBP Allocation 80%+ Equity	100%	0%	High	Higher	LiontrustLiontrust Sustainable Future Managed Growth Fund BlackRockBlackRock Consensus 100 Fund Royal LondonRoyal London Sustainable World Trust
GBP Allocation 60-80% Equity	80%	20%	Medium - High		HSBCHSBC Global Strategy Dynamic Portfolio LiontrustLiontrust Sustainable Future Managed Fund VanguardVanguard LifeStrategy 80% Equity Fund
GBP Allocation 40-60% Equity	60%	40%	Medium		HSBCHSBC Global Strategy Balanced Portfolio Royal LondonRoyal London Sustainable Diversified Trust VanguardVanguard LifeStrategy 60% Equity Fund
GBP Allocation 20-40% Equity	40%	60%	Medium - Low		BNY MellonNewton Multi-Asset Diversified Return Fund DimensionalDimensional World Allocation 40/60 Fund LiontrustLiontrust Sustainable Future Defensive Managed Fund
GBP Allocation 0-20% Equity	20%	80%	Low	Lower	Legal & GeneralLegal & General Multi-Index 3 Fund HSBCHSBC Global Strategy Cautious VanguardVanguard LifeStrategy 20% Equity Fund

10. Asset allocation expected return simulator

Understanding how different allocations between stocks and bonds impact your portfolio's potential returns is a key step in making informed investment decisions. This simulator lets you experiment with different asset allocations, helping you find the right balance of risk and return for your financial goals.

Adjust the expected returns for stocks and bonds and explore how changes in allocation influence the overall blended return of your portfolio. Whether you're focused on growth, income, or a mix of both, this tool offers a hands-on way to see the outcomes of your choices.

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