Maximal vs. Optimal Portfolio Returns

Asset allocation optimizes returns instead of blindly maximizing them. The distinction between maximal and optimal portfolio returns decides how you invest.

Maximal Returns refers to concentrating capital in the single asset class expected to generate maximum raw return. Historically, stocks have provided higher returns than other asset classes, so a maximalist would invest 100% in stocks. To further maximize returns, they might concentrate their investments in a few high-performing stocks, eventually placing all their money in a single stock — concentration akin to betting on a single number in roulette.

This approach is similar to what startup entrepreneurs do. They aim to maximize returns by investing all their resources and time into their business. Many successful entrepreneurs did not have a 401(k), IRA, or significant savings until their business succeeded.

Optimal Returns returns, on the other hand, involve a second variable—context. An optimal return is the maximal return when considering an additional factor, such as the risk of losing money due to volatility. This is where asset allocation becomes relevant. Many investors are willing to accept potentially lower returns in exchange for reduced risk.

The optimal asset allocation maximizes your probability of reaching personal financial milestones without exceeding your drawdown tolerance. It is a personalized strategy that evolves alongside your wealth, liquidity needs, and stage of life.

Your own needs and preferences are the one input no adviser or product can supply. For anyone who will not do that work, a target date fund (section “Target Date Funds (TDFs)”) is the acceptable default.

The practical test: if the allocation that maximizes your expected return is one you would abandon in a 40% drawdown, its realized return is not the maximal one — it is whatever you earn before you sell. Optimality is what survives contact with your own behavior.