Dear Dr. Don, I am an individual 23 years of age who will be attending law school this coming fall semester. I have been fortunate enough to accumulate a good sum of money. I have no debt and will not need to tap into any of my portfolio for many, many years to come (>10). However, the recent carnage of the stock market has given me pause and caused me to look hard at my asset allocation. As you can see, I am heavily weighted toward equities vs. bonds (90% to 10%). I consider this a fair distribution based on my age and investing horizon. Every month I contribute $50 each to (ROGSX) - Get Report Red Oak Technology Select and (VQNPX) - Get Report Vanguard Growth & Income. (VFINX) - Get Report Vanguard 500 Index and (VGHCX) - Get Report Vanguard Health Care each receive $100 monthly. I was hoping you could make some recommendations on my asset allocation. I believe I need additional small-cap and bond exposure. I have a $40,000 cash position, and I am considering taking all but $5,000 of that and investing it in stock equities. I feel that the upside of the stock market relative to any more potential downside is well worth the risk of investing the money now rather than later. Unfortunately, this will further weigh my portfolio toward the stock equity side. Would it be foolish to do this now and increase my bond exposure slowly, but surely over the next year or so? Thank you for any advice you could give. Sincerely, R.E.

R.E.,

As you stated in your letter, you are fortunate to accumulate this much wealth in your early 20s. You haven't identified your financial goals, but you've indicated that you have a long-term investment horizon. But having a long-term horizon doesn't mean that you can afford to ignore your portfolio. There aren't really any one-decision stocks and not many one-decision mutual funds, either.

Don't ignore your cash position when considering how your wealth is invested. You currently have about 25% of your financial assets in cash and 5% in bonds. So you actually have a 70% allocation in stocks rather than the 90% you presented in your letter. Take a holistic approach to portfolio management by looking at the whole portfolio.

Having seen the bond market flirt with low yields (high prices) in 1993 and 1998 toward the end of an easing cycle in the

Fed funds rate, I can't recommend that you jump in with both feet into the current bond market, but that doesn't mean you have to increase your allocation to stocks. You seem to think you have to reallocate your cash reserves and that it's a decision between stocks and bonds. You have a third choice, and that is to leave it in cash -- at least for now.

Before you make adjustments to your asset allocation decision, though, you should decide how you want to manage your portfolio. You can choose between actively or passively managing your portfolio. Actively managing your portfolio means you'll be making decisions about what is cheap or rich in your portfolio, and selling the rich (overbought) investments and buying the cheap (oversold) investments. Momentum investing is based on active management.

A passive approach doesn't continually focus on the valuation of the investment, but allows for periodic rebalancing to a target asset allocation. Passive portfolio management doesn't have to mean investing in market indices, but many passive investors gravitate toward the index funds for their low annual expense ratios, tax efficiency and the likelihood that they'll earn a return approximately equal to the return on the index.

Most people have active and passive components in their portfolio. That's a good thing because most investors that follow the financial markets want to actively manage at least a portion of their portfolio. Avoid any bet-the-ranch scenarios when actively managing your portfolio. Limit your speculative or high-risk investments to no more than 5% to 10% of your portfolio, even if you are actively managing all your investments. After all,

Willie Nelson

is not going to host a

concert for you if your investments head south.

Once you decide on a passive vs. active approach to the portfolio, you'll be better able to decide how to reallocate your investments. An active investor is more likely to make sector bets, like the one you're making with your 14% weighting in the Vanguard Health Care index. A passive investor will look toward more diversified funds, trying to tie the growth in the portfolio's value with the growth in the overall economy. A passive investor with your investment horizon shouldn't have that high of a cash allocation, though, and

dollar-cost averaging into the market would be a reasonable way to increase the bond or stock allocations. Active investors can justify holding some funds in abeyance in cash until they feel the time is right to increase the allocations to bonds or stock.

The decision between active and passive management also applies to your mutual fund selections. If you're more comfortable with a passive approach, then don't choose funds with high turnover ratios. If you think active management will yield superior results net of fees and expenses, then don't buy the index fund.

Either sell off your minuscule holdings in

Avaya

(AV)

,

McData

( MCDTA) and

Red Hat

( RHAT), or add funds to the point where these stocks represent at least 1% of your portfolio. I'll admit that I kept

Ikon

( IKN) off this list because of its strong year-to-date performance, but its 130% return put only $630 in your coffer. If it's worth owning, you should own enough for it to represent at least 1% of your portfolio.

Your

(ACSTX) - Get Report

Van Kampen Comstock position represents 15% of your portfolio. Based on its September 2000 holdings,

Morningstar

reported it as being invested primarily in large-cap value stocks, even though they classify it as a mid-cap value fund. So holistically, you're right to think that you're a little light in the mid-cap and small-cap sectors. You might consider the

(RPMGX) - Get Report

T. Rowe Price Mid Cap Growth Fund or

(TWEBX) - Get Report

Tweedy Browne American Value as substitutes, or hold off to see if the fund gets back on track based on December or March data. Also, you should really go shopping for a good small-cap fund.

(TCSVX)

Clover Small Cap Value is an interesting choice among the small-cap offerings, but it's a really small fund that's expected to grow rapidly when

Turner Investment Partners

begins distributing the fund starting in May.

On the surface, it looks as if you have too many individual stock holdings, but individual stocks only represent about 21% of your portfolio. There's nothing wrong with that percentage of your portfolio being held in individual stocks. It's easier to manage the tax consequences of the individual stock holdings than it is to manage the tax obligations of mutual funds held in taxable accounts.

Send In Your Portfolio

If you would like to submit your portfolio for a makeover, send it to portfoliorx@thestreet.com. Give us enough details -- dollar values or percentages -- so we can determine how your assets are allocated. Also tell us a little about yourself and your investing goals, and let us know how we can contact you if we have further questions. Though we'll use only your initials publicly, please include your full name so we can verify your identity. Unfortunately, we cannot guarantee your portfolio will be selected for a makeover, nor can we promise to respond individually to everyone who submits a portfolio.

Dr. Don Taylor has been an investment professional for nearly 15 years, most recently as the treasurer for a nonprofit organization where he managed more than $300 million in assets. He is a chartered financial analyst, holds a Ph.D. in finance and has taught investment and personal finance courses at the University of Wisconsin and at Florida Atlantic University. At the time of publication, he owned shares of the Vanguard Growth Index fund, though positions can change at any time. Dr. Don's Portfolio Rx aims to provide general investing information. Under no circumstances does the information in this column represent a recommendation to buy or sell. Dr. Don welcomes your inquiries and feedback at

portfoliorx@thestreet.com.