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Current Perspectives Summary

    Balancing Risk and Return Using Dynamic Asset Allocation

    March 25, 2010

    Deciding on a well-diversified long-term asset-allocation strategy is one of the most important calls an investor is ever likely to make. But even a thoroughly diversified long-term strategy is vulnerable to unusually large losses. During extreme and unexpected financial-market shocks (sometimes referred to as “tail events”), equity volatility soars and correlations between assets can increase rapidly, making diversification less effective just when investors need it most.

    Our research suggests that a dynamic asset allocation strategy may be helpful in reducing market volatility. When applied in a systematic way over time, we believe that dynamic asset allocation will produce measurable benefits, namely:

    • Less portfolio volatility
    • Fewer extreme negative outcomes, reducing the probability of large losses
    • Comparable long-term returns

    See the box at right for our research on dynamic asset allocation.

    A Balanced Allocation Has Had a Bumpy Ride over the Past Decade

    *Global equity returns refer to the MSCI All Country World Index after November 2000 and a market-weighted combination of the MSCI World and MSCI Emerging Markets indices before that.

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