Understanding Financial Terms

In spite of the market's ups and downs, the basics of smart investing haven't changed much over time. Asset allocation, also known as diversification, is the investing opposite of "putting all your eggs in one basket." In general, there are three types of assets:

1. Stocks
2. Bonds
3. Cash equivalents

Each will behave differently in certain market conditions: some will grow, others will shrink. The goal? Select the best mix of assets for your personal needs and goals, and that will have the greatest likelihood of growing over time. Consider asset allocation, then, a financial stew that best meets your personal taste. Each of the asset classes has risk associated with it, and managing this risk is the key to successful investing—with success being measured as both a good return and a good night's sleep. Building a portfolio simply means investing the right amount of money in the right types of investments to meet your goals and personality.

For new parents, asset allocation takes on a whole new meaning. Now, you've got specific financial needs that are directly related to your new bundle of joy such as, short term cash needs, medium term goals like camp and private school (What? I have to worry about camp or school for my infant already? Yes indeedy.) Of course there are also long term goals like college. You'll now need to consider investment strategies appropriate to each. Selecting investment assets that meet your time and risk requirements are an essential part of a solid plan.

All experts recommend maintaining a liquid nest egg of cash for emergencies. Three to six months living expenses should be minimum, but with a new child, consider slowly adding to your stash of cash until you've accumulated at least six to twelve months, if you can. For this account, a money market or interest bearing checking account is best. As a general rule, any goal that is less than five years away is considered relatively short term. If you are saving for a short term goal, like an addition on your house, down payment for a car, or new baby gear, then consider primarily safer investments, like treasury securities or a conservatively managed mutual fund. Stocks, unless they are carefully selected, may or may not be your best choice. But, for long term goals, especially anything over 10 years, stocks are the way to go. Remember, the stock market has returned an average of between 10 to 11 percent since it was born, so stocks remain the wealth creation vehicle of choice for those with a significant time horizon.