Seven Pillars of Asset Allocation Wisdom

Many financial planners recommend adding funds such as the (LCORX Quote)Leuthold Core that have very low correlations to the broader market -- they zig when the market zags. Leuthold Core has a 30% correlation with the S&P 500 -- it returned an average 4.73% during the past five years, compared with an average 3.54% loss for the S&P 500, according to Morningstar. Want to know how closely a fund is correlated to a particular benchmark? Morningstar, on its Web site, includes the Modern Portfolio Theory statistics on each fund. The R-squared measure details a fund's correlation with a particular benchmark.

3. Patience

The greatest asset allocation strategy in the world is worthless if an investor doesn't stick to it. "People need to take more of a long-term focus when it comes to asset allocation," Keefe said. "Long-term is not nine months."

Asset allocation, the cliche goes, isn't about timing -- it's about time. Two studies illustrate how a lack of patience undermines individual investors.

A 2001 study by Financial Research Corp. found that the average investor's $10,000 investment in mutual funds over 25 years would grow to $123,000 without any trading, but only $70,000 with trading. The difference: bad timing. Similarly, financial-services consultant Dalbar found that from 1984 through 2000, the average stock-fund investor had an average annualized return of 5.32%, compared with 16.32% for the S&P 500. Once again, active trading -- the average holding period for a fund fell to a hardly long-term 2.6 years in 2000 -- was the culprit.

"Investors should be less active in trading securities and less active in jumping in and out of the market," said O'Shaughnessy. "They should be more active in asset allocation, which they can review on an annual basis."

4. Purity

When hunting for funds in a specific category -- be it large-cap growth, small-cap value, junk bonds or emerging markets -- individuals should find the best performers they can. (Check out our ongoing Five Funds series that highlights a handful of strong offerings in a given asset class.)