Selecting the right security is always an important component of total return. But asset allocation can have an equally significant impact on portfolio performance. Asset allocation entails deciding how to divide one’s portfolio among the major asset classes, such as stocks, bonds and alternatives. The goal of proper asset allocation is to balance desired investment returns with one’s risk tolerance. The appropriate mix of assets is often determined by one’s outlook for the market and the economy, as well as how different asset classes have performed historically in different market environments.

To help you make these crucial investment decisions, we now provide asset allocation advice in our “Now vs. Then” table, which appears on page 10 of each monthly issue. In that table, we’ve specified allocation percentages in the banners above each of the three broad categories, as well as specified allocation percentages for the exchange-traded fund (ETF) sub-categories. This advice encapsulates our analysis of which asset classes will perform best over the next 12 months.

Our asset allocation strategy is tailored to investors with a moderate level of risk tolerance. Our hope is to generate annual investment returns of at least 8 percent with limited volatility. Given the market’s travails in recent years and the continuing economic uncertainty, we believe 8 percent growth is a reasonable target for 2012.

Over the trailing 12-month period, all of the major developed equity markets are in the red. Once again, the top-performing asset class is long-term US Treasury bonds, as measured by the Barclays Capital Long Term Treasury Index, which gained more than 22 percent over that period. Despite strong gains from precious metals and agricultural commodities, the Goldman Sachs Commodity Index is essentially flat amid fears that another global recession may be imminent.

But I expect 2012 will be a much more positive year for equities and commodities, with more “risk-on” days than “risk-off.”

That outlook is predicated on my expectation that the European sovereign-debt crisis will finally be resolved. Now that European Union member nations have agreed to a treaty that will strengthen their fiscal union, Europe appears on course to avert this crisis. That means the world has successfully dodged another global recession.

This year, China will continue to be a key driver of global growth. Despite fears to the contrary, China will engineer a “soft landing” for its economy. The nation’s high savings and investment rate along with its huge currency reserves allow it to respond to any weakness in the global economy. Additionally, China’s latest five-year plan emphasizes developing a stronger domestic consumer economy.

That combination of factors will be positive not only for equities, but also for commodities, as demand for all manner of raw materials should strengthen.

On the fixed-income front, Treasury bonds should finally weaken and riskier corporate bonds should outperform. Although the US Federal Reserve is unlikely to break its pledge to hold rates at current levels through mid-2012, interest rates could start to rise during the second half of the year, particularly if the domestic economy markedly improves. Investors should opt for bonds with shorter-term durations.

While we predict that 2012 will be a favorable year for investors, our new asset allocation strategy will cushion the blow if the markets take an unexpected turn for the worse.