In what way does an asset allocation fund manage risk?

An asset allocation fund manages risk primarily through diversification across various asset classes. This approach involves spreading investments across a mix of asset categories such as stocks, bonds, real estate, and cash. By doing so, the fund aims to reduce the overall volatility of the portfolio.

When one asset class underperforms, another may perform better, which helps to cushion the impact of loss and stabilize returns over time. For example, during periods when equity markets are declining, bonds may provide steadier performance. This balanced strategy allows investors to potentially achieve more consistent returns while mitigating the risks associated with investing in a single asset class.

Investing solely in equities, focusing exclusively on high-risk assets, or avoiding all foreign investments can expose the portfolio to higher levels of risk. These strategies do not provide the protective benefits of diversification, which is why they do not effectively manage risk in the same way that a diversified asset allocation fund does.