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A n investor's portfolio is his or her collection of investment assets. Investors make two levels of decision in constructing their portfolios, namely asset allocation and security selection. "Asset allocation is the choice among broad asset classes (e.g., cash, fixed interest securities, property, equities) and the decision on how much of the portfolio to place in each one. Security selection is the choice of specific securities to hold within each asset class" (Bodie et al. [2011], p. 36). The significance of asset allocation on portfolio performance has been established in the literature. Using U.S. investment data, it was found that about 90% of the variability in returns across time of a typical portfolio is explained by asset allocation (Brinson et al. [1986]). Another study found that about 40% of the variation of returns across several portfolios is explained by asset allocation (Ibbotson and Kaplan [2000]). This study uses the term "asset allocation" to refer mainly to strategic asset allocation. While tactical asset allocation also plays a role in actual practice, research has shown that straying away from strategic asset allocation introduces return and risk penalties for portfolios, which are even higher in an after-tax context (Brunel [1999]).
There is a wealth of academic literature on determining the proper asset allocation for investment portfolios. Whether this body of theory is being put to practical use in the investment management industry is not readily apparent, however. Here, investment management is defined as the job of planning, implementing, and overseeing the funds of an individual investor or an institution (Fabozzi et al. [1999]). This study determines if any dichotomy exists between theory and practice of asset allocation in the Australian investment management industry.
The study is underpinned by a survey of extant literature on asset allocation theory and theory-based methods, addressing the gap in literature that extensively surveys the wide range of research on the topic of asset allocation. The study is also expected to contribute to the body of knowledge by specifically studying asset allocation theory and practice in the Australian context, with previous similar studies on the theory-practice dichotomy being on other aspects of finance. The study focused on the Australian investment management environment, given the apparent advantage of access to primary and secondary data....