A more detailed investor quiz can be found in The How to Invest in Mutual Funds guide. Now that you know this, you can start to think about creating an asset allocation framework. Asset allocation, at its simplest, means diversification of financial investments among stocks, bonds, and cash. At a more sophisticated level, asset allocation involves trying to squeeze the greatest potential return out of a given level of risk. Given a choice between assets, an investor stands to realize the greatest return by choosing, to the exclusion of all others, the asset expected to perform best.
Diversification automatically dilutes the potential return.
But because some assets typically rise when others fall, it is possible to diversify among asset classes in such a way as to lower the potential risk by a greater amount than one has lowered the potential return. Differences of opinion abound concerning how to determine the percentage of assets that should be invested in stocks, bonds, and cash, respectively. The remainder should be in common stocks. Clearly, individual preferences and circumstances must be the determining factors in making asset allocation decisions. No matter what you do, you need to be able to sleep at night.