The investment universe has evolved dramatically. But successful portfolio construction still starts with one fundamental decision: how you allocate your assets.

Ask 10 financial advisors about their investment philosophy, and you’ll probably hear 10 different answers.

Some favor active management. Others prefer passive investing. Some focus on individual securities, while others use model portfolios. Some embrace alternative investments, while others believe simplicity is the best approach.

But regardless of their investment philosophy, they all have to answer the same fundamental question:

How should a client’s money be allocated?

It’s one of the oldest questions in investing. And despite all the innovation we’ve seen across financial markets, I believe it’s still the most important.

Over the past several decades, the investment industry has transformed.

We’ve gone from traditional stock and bond portfolios to an investment universe that includes active ETFs, factor-based strategies, private markets, liquid alternatives, digital assets and increasingly sophisticated portfolio analytics.

Investors have more choices, greater access and more tools than ever before.

But here’s the question I keep coming back to:

Have all these new investment choices actually made us better at building portfolios?

I’m not convinced.

And I think that’s why we need to revisit what asset allocation means in today’s investment environment.

1. The Most Important Investment Decision Hasn’t Changed

I’ve spent more than 20 years working in investment research, portfolio strategy and financial markets. During that time, I’ve seen countless investment trends come and go.

There have been periods when everyone wanted emerging markets, commodities, high-dividend stocks, technology companies, cryptocurrencies or the latest alternative investment strategy.

And there’s always a new investment product promising to improve returns, reduce risk or provide access to the next big opportunity.

But through all those market cycles, one principle has remained remarkably consistent.

Asset allocation is the foundation of portfolio construction.

And there’s research supporting just how important it is.

The landmark research by Gary Brinson and his colleagues found that a portfolio’s asset allocation policy explained more than 90% of the variation in its returns over time.

Subsequent research by Roger Ibbotson and Paul Kaplan reached a similar conclusion, finding that approximately 90% of a typical fund’s return variability over time could be explained by its asset allocation policy.

That’s an extraordinary finding.

It means that much of a portfolio’s movement through different market environments can be explained by its exposure to broad asset classes rather than the individual securities held within them.

Now, there’s an important distinction.

The research doesn’t suggest that asset allocation explains 90% of the differences in performance between investors. In fact, Ibbotson and Kaplan found that asset allocation explained approximately 40% of the variation in returns among funds.

Security selection, active management, fees and other decisions still matter.

But the larger point remains:

Before worrying about which stocks to buy or which investment manager to hire, investors need to get the overall portfolio allocation right.

And that hasn’t changed. What has changed is how we should think about building that allocation.

2. Diversification Has Become More Complicated

Traditionally, portfolio construction was relatively straightforward.

Determine how much risk an investor could tolerate.

Allocate a percentage to stocks for growth.

Allocate a percentage to bonds for income and stability.

Maybe add some international exposure.

Rebalance periodically.

And you’re off to the races. There’s nothing inherently wrong with that approach.

In fact, the traditional 60/40 portfolio remains a reasonable starting point for many investors. But I believe modern diversification requires looking beyond simple asset-class labels.

Consider an investor who owns an S&P 500 ETF, a large-cap growth ETF, a technology ETF and an AI-themed ETF.

On paper, that investor owns four different funds. But how diversified are they really?

There’s a good chance those funds have significant exposure to many of the same mega-cap companies. Four different investments don’t necessarily mean four different sources of risk.

This is particularly relevant given the concentration we’ve discussed in recent newsletters, with the largest companies representing an increasingly significant portion of major equity benchmarks.

And the challenge extends beyond equities.

We learned during the inflation-driven market declines of 2022 that stocks and bonds can fall together.

For decades, many investors relied on high-quality bonds to provide diversification when equities struggled. But when inflation and interest rates became the dominant risks, both asset classes experienced significant losses.

That doesn’t mean diversification stopped working. It means the economic forces driving returns matter.

Modern diversification isn’t simply about owning different asset classes. It’s about understanding what drives their returns and how those investments behave together.

Inflation, interest rates, economic growth, liquidity and investor sentiment can influence multiple asset classes simultaneously. And sometimes investments that appear very different on paper can behave remarkably similarly when markets become stressed.

That’s why I believe modern asset allocation needs to focus more on underlying risk exposures and return drivers, not simply investment labels.

3. More Investment Choices Don’t Automatically Mean Better Portfolios

One of the developments I’ve been most excited about throughout my career has been the democratization of investing. ETFs have played an enormous role in that transformation.

Investors can now access asset classes, investment strategies and markets that were once difficult, expensive or practically impossible to reach.

Active ETFs have expanded access to professional investment management.

Factor-based strategies allow investors to target specific sources of return.

Private markets and alternative investments have become more accessible.

And advances in technology have made portfolio analytics and risk management tools increasingly sophisticated.

I view much of this innovation as positive. But I also think the investment industry sometimes confuses having more options with creating better outcomes.

Just because an investor can add private credit, commodities, managed futures, cryptocurrencies or another alternative strategy doesn’t mean they should.

Every investment needs to serve a purpose.

Does it improve diversification?

Does it provide a different source of return?

Does it help manage a particular portfolio risk?

Does it address a client’s income, liquidity or tax needs?

Or are we simply adding another investment because it’s available?

I’ve seen portfolios become increasingly complex without necessarily becoming better diversified.

An investor can own 15 ETFs, several alternative strategies and a handful of private investments and still have a portfolio heavily exposed to the same underlying economic risks.

And complexity creates its own challenges.

Higher costs.

Greater monitoring requirements.

Potential liquidity constraints.

More difficult rebalancing decisions. And sometimes a portfolio that’s harder for the investor to understand.

Complexity is not the same as diversification.

I’m not suggesting investors avoid alternatives or sophisticated strategies. Quite the opposite. I believe many of these tools can play valuable roles in modern portfolios.

But they should earn their place.

The objective isn’t to own the greatest number of investments. It’s to own the right combination of investments.

4. Strategic Asset Allocation Still Matters. But So Does Flexibility.

Another area where I believe portfolio construction has evolved is the relationship between strategic and tactical asset allocation.

I’ve always believed in establishing a long-term strategic allocation. That allocation should reflect the investor’s objectives, risk tolerance, investment horizon and financial circumstances.

It provides discipline.

And perhaps most importantly, it helps investors avoid making emotional decisions during periods of market volatility. But I also believe portfolios should have some flexibility.

Markets change.

Valuations change.

Interest rates change.

Economic conditions change.

And sometimes the relative attractiveness of different asset classes changes significantly.

Consider the bond market.

For years, investors received very little income from high-quality fixed income. With Treasury yields reaching 5%, the opportunity set looks considerably different.

That doesn’t mean every investor should suddenly make a massive allocation to long-duration bonds. But it does mean the expected return and risk characteristics of fixed income have changed.

And that deserves consideration.

The same principle applies to equities.

When market concentration becomes elevated, investors may want to evaluate whether their portfolios have become overly dependent on a relatively small group of companies.

That could create opportunities to rebalance, diversify or adjust exposures. But there’s an important distinction between being flexible and constantly reacting.

I’m not advocating for investors to make dramatic portfolio changes every time the market moves or an economic report surprises expectations. That usually creates more problems than it solves.

Strategic asset allocation should provide the foundation. Tactical decisions should be thoughtful adjustments, not attempts to predict every market move.

The objective is to remain disciplined while recognizing that the investment environment doesn’t stand still.

5. The Investor Still Matters More Than the Investments

Perhaps the most important evolution in modern asset allocation has less to do with financial markets and more to do with the investor.

For years, portfolio construction was often centered on risk tolerance questionnaires.

Answer a few questions.

Receive a risk score.

Get assigned a model portfolio.

And periodically rebalance.

That’s certainly a starting point.

But I believe modern asset allocation needs to go further.

Two investors can have identical risk tolerance scores and still require very different portfolios.

One may be 35 years old, accumulating wealth and decades away from retirement.

Another may be 65, recently retired and relying on portfolio income to fund living expenses.

Even if both say they’re comfortable with moderate risk, their financial circumstances are dramatically different. And those differences matter.

Investment horizon.

Liquidity needs.

Tax considerations.

Income requirements.

Existing concentrated positions.

Withdrawal expectations.

And perhaps most importantly, the investor’s ability to remain disciplined during difficult markets. Because here’s something I’ve learned throughout my career:

The mathematically optimal portfolio isn’t always the portfolio an investor can actually stick with.

An allocation that looks great in a spreadsheet doesn’t do much good if the investor abandons it during the next market correction.

That’s why I believe modern asset allocation should focus less on maximizing theoretical returns and more on improving the probability of achieving real financial goals.

And that requires understanding the person behind the portfolio.

The View From 6,230

The investment industry has changed dramatically over the past several decades. Investors have more products, greater access, better technology and more sophisticated portfolio-construction tools than ever before.

But I don’t believe the fundamental objective of asset allocation has changed.

We’re still trying to build portfolios that provide an appropriate balance of risk and return while helping investors achieve their financial goals.

What has changed is the complexity of getting there.

Traditional asset-class labels don’t always capture underlying risks.

Owning more investments doesn’t necessarily improve diversification.

Alternative strategies aren’t automatically better simply because they’re different.

And sophisticated investment products don’t eliminate the need for disciplined portfolio construction.

The research showing that asset allocation explains roughly 90% of a portfolio’s return variability over time is a powerful reminder of why the big decisions matter.

But modern asset allocation requires more than deciding whether a portfolio should hold 60% stocks and 40% bonds.

It requires understanding the underlying sources of risk and return.

It requires evaluating how investments interact across different market environments.

It requires knowing when active management, passive investing and alternative strategies can add value.

And most importantly, it requires building portfolios around the investor, not the investment products.

I’m a big believer in financial innovation.

But innovation should make investing better, not simply more complicated.

The best portfolio isn’t necessarily the one with the most investments, the most sophisticated strategies or the highest expected return.

It’s the one that gives an investor the greatest probability of achieving their goals while taking an appropriate amount of risk.

The tools have changed.

The investment universe has expanded.

And portfolio construction has become more sophisticated.

But asset allocation still matters.

We just need to think about it differently.

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This week on Views from 6,230: The Fed Is Wrong. Stocks Can Still Win

I had the pleasure of speaking with Jay Hatfield of Infrastructure Capital Advisors to discuss how Federal Reserve policy, rising Treasury yields, oil prices, and tightening financial conditions are shaping markets. Hatfield argues the Fed is overly hawkish, criticizes inflation measurement (especially shelter and PCE), and says higher rates are driving a housing recession and tightening high-yield credit.

The Week Ahead

Be on the lookout for our next episode of Views from 6,230, where I sat down with Asaf Meir CEO at Solidus Labs on the new trends shaping the wealth management space and how financial advisors can help serve this new economy?