Final answer:
False, asset allocation should include a mix of assets, not just stocks, to balance potential returns with risk. Stocks offer high returns but also high risks, while mutual funds provide a way to invest in the stock market with lower individual security risk. A diversified portfolio is key for managing investment risk and achieving financial goals.
Step-by-step explanation:
False, asset allocation should not be restricted to stocks despite their high potential returns. While it is true that stocks may offer higher average returns over time, they also come with higher degrees of risk, especially in the short term. Moreover, although stocks have high liquidity, allowing for quick conversion to spendable money,
a diversified portfolio that also includes bonds, mutual funds, and other assets can better balance the tradeoff between risk and return. Each investment type reflects a different level of risk and potential return; for example, bank accounts have very low risk but also low returns, while bonds carry higher risk and higher returns, but less than stocks.
Furthermore, mutual funds, which are composed of a wide range of assets, provide an option for investors to gain exposure to the stock market with lower risks and returns compared to individual stocks. An understanding of the fact that risk is often correlated with potential return is crucial to making informed investment decisions.
Ultimately, a well-structured asset allocation strategy depends on individual financial goals, risk tolerance, and investment horizon, and should typically include a mixture of asset types to ensure proper diversification.