Portfolio allocation is the process of divvying up your investments into different assets like stocks, bonds, real estate, and cash. Your portfolio allocation largely depends on your investment time horizon and the ability to tolerate risk.

Investment Types:

-Large-Cap Stocks: Companies with over $10 billion in market capitalization. Typically a low-risk company, with high liquidity. Returns on these companies tend to be low.

-Mid-Cap Stocks: Companies with a market capitalization between $2 billion and $10 billion. Typically medium level risk with sufficient liquidity. Returns on these companies tend to be above average.

-Small-Cap Stocks: Companies with a market capitalization of less than $2 billion. Typically high risk, with low liquidity. Returns on these companies tend to be high.

-REITs (Real Estate Investment Trusts): Shares of a pool of real estate/properties or mortgages. Payout most of their income as a dividend.

-Investment Grade Bonds: Highly rated corporate or government bonds that will pay an interest rate over a set of period of time. These are typically less risky than stocks and have less volatility.

-High Yield Bonds: Speculative grade companies that will pay a higher interest rate than investment-grade companies. Higher risk and more volatility than investment grade since there’s a higher chance at default. 

-Cash: No volatility, will make very little returns depending on the interest rate applied to your cash account.

Time Horizon

Your time horizon also plays a factor in this. The shorter the time horizon for the goal, the less risk you may feel more comfortable taking since you want to minimize volatility. On the other hand, someone with a longer investment time horizon, they may feel more comfortable taking a riskier, more volatile investment.

Risk Tolerance

Your risk tolerance is how much uncertainty are you willing to take to achieve your goals. This is your ability and willingness to lose some or all of your investment in return to higher potential returns. Ultimately, you need to determine what would make you comfortable on a daily basis, ie how much are you willing to lose, what kind of market declines or investment losses would keep you up at night. Conservative investors tend to favor less risky and less volatile investments. These investments tend to preserve the value of the original investment. A riskier or more aggressive investor tends to favor the risk of losing money so they can generate higher returns.

The old rule of thumb is to subtract your age from 100 and that’s the percentage of your portfolio you should keep in stocks. Every investor is different, so it is up to you to decide how much risk you are comfortable taking.

Ultimately the decisions come down to the individual investors’ characteristics and how they favor risk versus reward. Every individual investor is different, so it is up to you to find out what suits your needs. The best approach to take things slowly until you get comfortable with allocating your investments into certain areas.