What is the Difference Between a 70/30 and 80/20 Asset Allocation?

Asset allocation refers to how an investor divides their investment portfolio between different asset classes, such as stocks, bonds, and cash. Two common asset allocation strategies are the 70/30 and 80/20 models. But what exactly is the difference between these two approaches?

Overview of Asset Allocation Strategies

Asset allocation is a key part of creating an investment portfolio. By dividing your investments between asset classes, you can aim to maximize returns while minimizing risk.

There are several main asset classes:

• Stocks – Shares of ownership in companies. Considered riskier but with higher growth potential.
• Bonds – Essentially loans to governments or corporations which pay interest. Seen as less risky than stocks.
• Cash – Including cash in savings accounts, CDs, money market funds. Very low risk but low returns.

In addition to these main assets, some other common asset classes are real estate, commodities, and alternative investments.

The idea behind asset allocation is that by diversifying your assets, you reduce the risk of your overall portfolio. If one asset class performs poorly, the others may balance it out.

There are many approaches to asset allocation, but two common models are the:

• 70/30 allocation – 70% in stocks, 30% in bonds/cash
• 80/20 allocation – 80% in stocks, 20% in bonds/cash

Below we’ll explore the key differences between these two strategies.

How a 70/30 Asset Allocation Works

A 70/30 asset allocation puts 70% of the investment portfolio into stocks and the remaining 30% into bonds and cash.

For example, if you had a $100,000 investment portfolio, you would allocate:

• $70,000 to stocks
• $30,000 to bonds and cash

The stock portion would be invested in a diversified mix of stocks across market sectors, industries, market caps, growth potential, etc. This could be done through individual stocks, stock mutual funds, or ETFs.

The 30% fixed income portion would go into bond funds/ETFs and cash equivalents like money market accounts.

This model aims to provide strong stock market growth potential from the 70% equity allocation. But the 30% bonds/cash help reduce risk and volatility.

The 70/30 split is considered a “moderate” risk tolerance asset allocation. It takes more risk than very conservative allocations like 20/80 but less than very aggressive allocations like 100% stocks.

How an 80/20 Asset Allocation Works

An 80/20 asset allocation puts 80% of the portfolio into stocks and 20% into fixed income assets.

Using the same $100,000 portfolio example, the splits would be:

• $80,000 allocated to stocks
• $20,000 allocated to bonds and cash

So compared to the 70/30 allocation, the 80/20 model dedicates more money towards stocks and less towards fixed income.

With 80% in equities, this allocation takes on more risk but also has higher potential returns. The 20% fixed income portion still helps manage volatility.

An 80/20 allocation is considered a “growth” or “aggressive” asset mix for investors with higher risk tolerance.

Key Differences Between 70/30 and 80/20

While both strategies emphasize stocks over bonds, there are some important differences between the two approaches:

• Stock allocation – The 80/20 portfolio has 10% more allocated to stocks than the 70/30 portfolio. This is the key difference.

• Risk and return potential – The 80/20 model generally carries more risk but more long-term return potential, while 70/30 has lower risk and slightly lower return potential.

• Volatility – With less fixed income, an 80/20 portfolio may experience higher volatility in market downturns. The larger bond allocation in 70/30 may help smooth out volatility.

• Suitability – 70/30 is suitable for moderate risk investors, while 80/20 matches better with investors who have high risk tolerance.

• Rebalancing – Both portfolios will need occasional rebalancing to maintain target allocations as asset values change. This may be needed more often with the higher-risk 80/20 allocation.

Who is Each Asset Allocation Best For?

Determining whether a 70/30 vs 80/20 asset allocation is right for you depends largely on your:

• Risk tolerance – How much risk are you comfortable taking? Can you handle frequent market swings?
• Time horizon – When will you need to withdraw the money? Longer timeframes allow more risk.
• Return objectives – What return goals are you aiming for? Higher potentials require more risk.

Here is a breakdown of which investors each strategy may suit best:

70/30 Asset Allocation

A 70/30 portfolio is best suited for investors with a moderate risk tolerance. Key factors include:

• Want some growth potential from stocks but also limit risk
• Not comfortable with frequent market swings
• Have a medium-term timeline (5-10 years)
• Seeking modest returns in the 6-8% range

This allocation helps limit losses in down markets while still providing solid growth. It’s a good fit for investors who want to grow their money but also want to minimize volatility.

80/20 Asset Allocation

The 80/20 portfolio matches best with investors who have a high tolerance for risk. Key factors include:

• Seeking maximum growth potential from stocks
• Comfortable with market volatility and frequent ups/downs
• Have a long timeframe (10+ years until withdrawals needed)
• Want potentially higher returns – 10% or more

With its heavy equity focus, this allocation provides more aggressive growth. But the higher risk means sharper drawdowns are likely in market declines. The long time horizon helps mitigate this risk.

Tips for Choosing Between 70/30 and 80/20

If you’re trying to determine whether a 70/30 or 80/20 allocation is better for your needs, here are some tips:

• Consider your risk tolerance carefully – don’t take unnecessary risk but don’t be overly conservative either.

• Factor in your investment timeframe – longer horizons allow more risk.

• Weigh your growth objectives – higher targets generally require more risk.

• Backtest the performance of each allocation over historical periods to see differences.

• Use a risk tolerance questionnaire to see where your risk comfort level falls.

• Discuss your needs with a financial advisor who can provide guidance.

• Don’t forget to diversify properly within each asset class.

• Rebalance your portfolio occasionally to stay on target.

• Review and adjust your allocation as your goals and risk appetite changes over time.

Pros and Cons of 70/30 vs 80/20 Asset Allocations

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