Asset allocation: An essential element of portfolio construction

Special to the RBJ//July 16, 2026//

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The statement that “knowledge pays the best interest” is commonly attributed to Benjamin Franklin. This well-known guidepost reflects Franklin’s strong belief in the value of learning as expressed in Poor Richard’s Almanack. He viewed knowledge as an asset that compounds over time which, unlike money, cannot be stolen or lost. As we continue our discussion of investment topics, we consider the enduring importance of asset allocation as an element of portfolio construction and the role that it plays in investment portfolios today.

The allocation process

Once an investor has identified his or her goals, the investment process typically begins with the development of the investor’s profile, taking into account his or her personal financial situation, tolerance for risk, investment time horizon and liquidity needs. The process continues with a consideration of the asset classes that will best achieve those goals, including, among others, stocks, bonds and cash. Because each asset class has distinct risk/return characteristics, an effective allocation process involves an understanding of the attributes of the various asset classes and how they have performed over time under different market scenarios. The goal is to apportion funds among various asset classes in the construction of a portfolio that will effectively manage risk while seeking desired returns. Once the allocation has been formulated, individual securities are selected. Continuous monitoring and regular rebalancing are necessary to maintain the desired allocation as market movements shift portfolio weights.

Financial industry trends

The elimination of fixed commissions in the retail securities brokerage industry in 1975 has had a profound effect on business models and compensation practices in the financial services industry in the decades that have followed. Thereafter, brokers were free to negotiate commissions, and the emergence of the “discount broker” increased competition. Now, some fifty years later, commissions on trades have plummeted and technological advances have resulted in the availability of multiple online, low-cost trading platforms. As competitive pressures increased, brokerage firms became keenly aware of the appeal of fee-based accounts that produced recurring revenues. For those firms that were dually registered as broker-dealers and investment advisers, it was relatively easy to shift business practices to the more lucrative advisory model. Many of their representatives left to form their own advisory firms. Today there are more than 32,000 registered advisory firms. Approximately half are registered with the U.S. Securities and Commission and approximately half are registered with state authorities.

The emergence of the model portfolio

Technological advances in more recent decades have made it possible for investment managers to manage thousands of small accounts simultaneously. With asset allocation as a key feature, many larger investment managers such as Fidelity and Black Rock, have developed “model portfolios” for a variety of investment strategies that are made available to retail investors under “wrap fee” programs. Some advisory firms have developed proprietary models. A model portfolio is essentially a real time or hypothetical portfolio structured by an investment professional to demonstrate appropriate asset allocation and security selection, depending on a client’s investment objectives and risk tolerance. These programs have emerged as a popular service offering for many investment firms that work with retail investors.

Wrap fee programs can be structured in a variety of forms. The most basic structure is a program that provides asset allocation and portfolio management services for a single fee which is customarily based on assets under management. Portfolios are customarily managed on a discretionary basis and might consist of individual securities or mutual funds which provide indirect access to specific asset classes. While these programs may provide investors with access to high quality portfolio management, they are not suitable for all investors. Any decision to participate in a wrap fee program should be based on the client’s individual financial circumstances and investment goals.

The mutual fund comparison

Mutual funds have been a popular investment product for decades precisely because they provide access to a professionally managed portfolio at a reasonable cost with the ability to redeem shares on a daily basis, i.e., when the NYSE is open. Unlike model portfolios, mutual funds are subject to an extraordinarily complex regulatory regime under the Investment Company Act of 1940 (1940 Act). Regulators are keenly aware of the similarities between unregistered model portfolios and registered funds. A noteworthy enforcement case brought by the Commission reflects this regulatory lens – where client accounts with similar investment objectives are managed to hold the same securities in their accounts, a discretionary wrap fee program might fall within the definition of an investment company and, thus be subject to regulation under the 1940 Act. Moreover, individual accounts participating in the program could be characterized by regulators as securities requiring registration under applicable federal laws. To avoid these consequences, sponsors of wrap fee programs and participating firms are expected to ensure that clients enrolled in these programs receive individualized advice in accordance with guidelines established by the Commission. Caveat emptor!

This column is a collaborative effort between Patricia Foster and Jesse Cramer. Patricia is a corporate/securities law attorney. Her experience includes representation of clients in various sectors of the financial services industry, including broker-dealers, investment advisers and investment companies. Jesse helps families plan for retirement and hosts a national podcast about retirement planning. The information in this column is provided for educational purposes and does not constitute legal or investment advice.